Heineken Holding's (HKHHF) CEO Jean-François van Boxmeer on Q2 2014 Results - Earnings Call Transcript

Aug.20.14 | About: Heineken Holding (HKHHF)

Heineken Holding N.V. (OTCQX:HKHHF) Q2 2014 Earnings Conference Call August 20, 2014 4:00 AM ET

Executives

George Toulantas – Director, IR

Jean-François van Boxmeer – CEO and Chairman

René Hooft Graafland – CFO

Analysts

Ian Shackleton - Nomura

Andrea Pistacchi – Citigroup

Trevor Stirling – Sanford Bernstein

Andrew Holland – Societe Generale

Chris Pitcher – Redburn

Tom Russo - Gardner, Russo and Gardner

Sanjeet Aujla – Credit Suisse

Tristan van Strien - Deutsche Bank

Gerard Rijk - SNS Securities

Karel Zoete - Rabo Securities

Anthony Bucalo - Santander

Simon Hales – Barclays

Chris Blaine - African Alliance Capital Markets

Operator

Good morning everyone, and thank you for joining us today to discuss Heineken’s results first half 2014. (Operator Instructions). At this time I would like to turn the conference over to Mr. George Toulantas, Director of Investor Relations. Please go ahead, sir.

George Toulantas

Thank you, operator. Good morning everyone, and thank you for being with us today. I’m joined by Jean-François van Boxmeer, CEO and Chairman of the Executive Board and René Hooft Graafland, CFO and Member of the Executive Board.

Following prepared remarks we will turn the call over for your questions. Let me now turn the call over to Jean-François.

Jean-François van Boxmeer

Thank you George and good morning everyone. I am taking you through the presentation together with René. I start with Slide 2 on your computer, and then I will stop referring to the slide because I think they will slide automatically.

The key highlights. Turning first to the group highlights. I am pleased to report a strong performance for the first half of the year with organic revenue and profit growth across nearly all regions. Organically group beer volume was up 3.1% and group revenue up 4.6%. And Heineken brand volume grew 6.6%, reflecting strong progress in a number of our key markets. This performance alongside double-digit volume growth in global brands such as Desperados, Affligem and Sol helped drive share gains in a number of markets. The focused investments that we have made in our brands, improved sales execution and increased innovation were all underlying drivers of this growth. These benefits from better commercial execution were further supported by better weather in Europe and of course, the football World Cup, as well as the recovery from the significant excise increase last year in France.

Group operating profit beia was up 13% with margin expansion of 130 basis points. A key driver of this are cost savings under our TCM2 program which has over-delivered on the €625 million initial target and was completed ahead of schedule. Driving cost efficiencies is firmly embedded in our business and that focus will continue going forward. Diluted EPS beia of €1.34 was up 14% on last year.

At the regional level now, we saw strong volume growth in Africa, Middle East with group beer volumes up 8.1%. This was led by growth in Nigeria, the Democratic Republic of Congo, Rwanda, Cameroon and the Republic of Congo.

Consolidated revenue growth was 5.7% in Africa and Middle East with lower revenue per hectoliter due to negative country and product mix. This reflects the faster growth of more affordable brand propositions as we look to reach more consumers.

In Nigeria, we saw a continuation of improving volume trends with volume up in the high single digits and double digit profit growth. In Ethiopia, volume developed positively and we recently completed the construction of a new brewery in Addis Ababa which has been operational since July. We remain well positioned in the region where growth fundamentals remain firmly intact and positive.

Turning to the Americas group, beer volume increased 4.7% organically. Within the region, we saw continued double-digit volume growth in Brazil, and improved trends in both Mexico and the U.S. in the second quarter. In the U.S. sales to retailers grew 0.9% leading to share gains. The Mexican brands of Dos Equis and Tecate Light were both up in the double digits. Encouragingly in the second quarter, sales to retailers of Heineken regular was slightly positive, the first time in a number of quarters. Innovations such as Dos-A-Rita, the Heineken Slim Can and Strongbow Cider also helped drive growth in these markets.

In Brazil, volume was up double digits driven by good sales execution and increased spending around the Football World Cup. The Heineken brand was a key driver of the volume growth in Brazil as we continue our focus on the fast growing premium segment in that country.

In Mexico, volumes were up in the low single digits broadly in line with the markets. Our continued focus on innovation and on cost savings delivered strong operating expansion in the first half over 350 basis points in the country – in this country alone.

In Asia Pacific, there was notable improvement in trading conditions in the second quarter, leading to group beer volume growth of 2.8% in the first half. Volume in Vietnam was up in the mid single digits driven by improved consumer confidence, a broader product offering and strong outlet execution. This contributed to continued strong gains for the Tiger brand and overall market share gains.

Turning to Central and Eastern Europe. That region continued to be impacted by challenging economic backdrop, flooding in a number of markets and highly competitive markets. Group beer volume was down 4.2% although we achieved solid revenue per hectoliter growth in line with our value growth focus for the region.

In Russia, the trend seen in the first quarter continued with volume down in the low double digits for the first half. Despite this, we improved our profitability in the country due to sales positive mix and cost savings. Their market conditions in Poland remain challenging given sustained competitive pricing and adverse channel mix from continued growth of the discounted channel. Despite this challenging environment, our revenue management initiatives drove higher consolidated revenue per hectoliter of 2.7% which we are further optimizing our cost base to improve profitability across the region.

And finally in Western Europe, our step-up in commercial investments is yielding encouraging results leading to broad based market share gains in the region. Group volumes were up 6.5%, also reflecting favourable weather and positive impact from the Football World Cup against a soft comparable period last year. Whilst we expect softer volume development in the second half in Western Europe due to a stronger comparable base, we remain focused on executing against our renewed strategic agenda for the region. This is centered on investments in premium brand development and accelerated innovation rate as well as strengthened outlet execution.

Turning now to Slide 4. And I am pleased that we have delivered balanced top line growth across both developed and developing markets. Importantly developing markets which now represent 60% of group operating profit delivered strong organic profit growth up 16%, led by Mexico, Nigeria and Brazil. Going forward the breadth of our geographic footprint continues to offer an excellent spread of profits and cash flow, whilst we remain well placed to benefit from the expected faster growth of developing markets.

As I mentioned earlier, we saw improved top line growth momentum in the second quarter across a number of key markets driving an improved first half performance on the same period last year.

The chart on Slide 5 shows the improving volume and revenue organic growth momentum since the beginning of last year. Whilst we expect some moderation of this growth in the second half of this year, we still expect a healthy top line result for the full year.

Let me now take a moment to update you on the solid performance of the Heineken brand. As I highlighted earlier, the brand returned to growth up 6.6% in the first half of the year and by over 5% adjusting for the destocking in France. So far this year, we have seen strong Heineken brand growth in Brazil, China, Spain, France and Nigeria to name just a few important markets. Our continued investments in the Heineken brand continues to drive global brand equity supported by the new Cities of the World campaign that we recently launched in May. This is being activated through ‘The City’ commercial, digital innovation and special edition bottles.

Of course, alongside the Heineken brand we have been expanding our premium portfolio of other global brands which was up double digits in the first half. These brands all indexed at the price well above mainstream bid, supporting revenue per hectoliter growth and enhancing gross margins.

Affligem is now available in 30 countries across all five regions. It continues to gain traction across Western Europe with France and Belgium stand-out markets in the first half. Desperados, our tequila-flavoured beer, is now selling in around 70 markets. We launched the brand in a number of markets in the first half, including Taiwan, the Czech Republic and Singapore. We expect to add a further 10 markets later this year with much potential for further growth of Desperados.

Sol, our Mexican brand, is now selling in 39 countries with a planned launch in several more markets. The brand grew in the double digits in the first half led by the markets of the UK, Spain, Brazil and Chile. Finally, cider remains an exciting growth opportunity for us with Strongbow, the global brand leader within this segment. In the first half we introduced new innovative flavour variants for Strongbow such as honey and apple in the US and elderflower in Hungary.

Turning to Slide 8. In the first half we continued to make excellent progress on innovation. Our innovation rate accelerated to 7.4% contributing to almost €700 million to group revenue. This is ahead of our 2020 target rate of 6%. And combined with a strong pipeline leaves us well placed to continue the positive momentum.

We continue to leverage our global innovation capabilities of speed, to create excitement for our consumers and value for our customers. One of our most successful recent innovation is Radler beer. In the first half, we launched Radler Zero, an alcohol-free variant in 8 countries in Europe. This not only addresses a different consumer beer [ph] preference but also access to less traditional points of sale.

We also continue to innovate through packaging. Some examples highlighted on Slide 8 is the launch of the 33 centileter Turbo King bottle in Nigeria and 50 centileter Primus bottle in the DRC. These innovations have been successful in recruiting new consumers at more affordable price points, we are still maintaining healthy margins.

And in the cider we rolled out Old Mout, our New Zealand cider brand in the UK and launched further flavour variants for the Bulmers and the Strongbow brands. This healthy top line performance was further supported by €141 million of TCM2 cost savings in the first half, helping to drive strong profit growth and margin expansion. I am pleased to say that we completed the TCM2 program six months ahead of schedule with a cumulative cost savings of €637 million, ahead of our three year target of €625 million. However our cost savings journey is not over. Driving cost efficiency is and will continue to be an integral part of Heineken’s culture. We are committed to driving ongoing productivity improvements across our supply chain and implementing further restructuring to optimize our cost base.

In addition, we will further leverage the success of the global business service organization. By end of June 2014, 18 out of the 24 operating companies in Europe have successfully transferred finance activities to the Heineken global shared service center in Poland. The remaining operating companies in Europe will be completed by the end of this September. We are also extending the scope of activities undertaken by our shared service center in Europe and improving the efficiency and quality of finance processes in markets outside of Europe. Alongside this, we expect to realize continued savings in purchasing as we migrate more markets to our global procurement model.

Let me now turn to our 2014 outlook. Following a strong first half, we expect to deliver healthy full year results. This is a testament to our sustained brand investments, sharpened commercial execution and the rebalancing of our geographic footprint towards higher growth markets over the past few years. And we are committed to ensuring the positive momentum is maintained beyond the current year.

Having delivered strong volume growth in the first half of the year, we expect positive volume development over the rest of the year albeit at a slower rate of growth. This owes mainly to a stronger comparative prior year periods. This growth will be mainly driven by continued positive momentum of our developing markets, regions of Africa and Middle East, Asia Pacific and the Americas. Despite some moderation in revenue per hectoliter growth in the second half overall we expect healthy organic revenue growth for the full year with negative translational currency movements adversely impacting on reported revenues.

We have provided for the first time a year-on-year operating profit beia margin target of approximately 40 basis points per annum over the medium term. Looking beyond the current year, we are pleased that our initiatives to drive improved business performance throughout the group are delivering results and we will stay focused on ensuring that this positive momentum is maintained.

With that, let me now hand over the call to René to take you through our financial performance in a little bit more detail. Thank you.

René Hooft Graafland

Thank you Jean-François and good morning everyone. Indeed, let’s have a deeper look into the financial performance of the first half.

Group revenue was up 4.6% organically driven by a total volume growth of 3.1% and a revenue per hectoliter growth of 1.5%. Group operating profit was up 13% organically driven by the higher revenues and realized TCM2 savings.

Net profits beia of €772 million was 19% higher on an organic basis driven by mainly the strong operating profit results. The free operating cash flow in the first half has led to a decline in the net debt to EBITDA ratio from 2.6 times at the end of last year to 2.5 times through the end of June. And we remain well on target to achieve our target ratio of below 2.5 times by the end of this year.

Now looking closer at our top line performance. In the second quarter, group revenue was up 5.5%, ahead of the 3.4% growth of the first quarter. In addition to the World Cup, good weather and the later timing of Easter, we also witnessed better underlying trading conditions in key markets in the Asia Pacific region. And we are also seeing positive results from our stepped-up marketing investments and better execution in Western Europe resulting in broader market share gains in that region.

On a consolidated basis, revenue per hectoliter was up 1.8% organically in the first half supported by a higher pricing and a favourable sales mix in the Americas and the Central and Eastern Europe regions. In Africa and the Middle East, revenue per hectoliter was lower due to a negative country and product mix effects.

Reported consolidated revenue declined by 1%, including a negative net consolidation impact of €153 million from the last year’s divestment of Hartwall in Finland and favourable foreign currency translational movements reduced consolidated revenue by €376 million.

Group operating profit beia grew 13% organically in the first half. On an organic basis, consolidated operating profit grew by 14% due to higher revenues and improved efficiencies across production, logistics and general expense. This was partly offset by a higher marketing spend which increased to 13.4% of revenue compared with 13% last year. Excluding inventory movements and gains on sales, total fixed costs as a percentage of revenue declined organically in the first half by around 1% primarily due to lower cost of repair and maintenance and reduced personnel costs. This follows a reduction in headcount of over 5600 FTEs compared to June of last year. The largest headcount reductions were Mexico and Nigeria, Ethiopia and most markets in Europe as part of our cost optimization programs in these countries.

Consolidated operating profit includes a negative consolidation impact of €700 million and a reduction of €55 million related to adverse foreign currency translation movements. We expect the phasing of our organic profit to be predominantly weighted towards the first half of the year, reflecting the strong performance in these first six months. This reflects firstly, as already indicated, half year volumes benefitted from increased consumption during the World Cup, favourable weather as well as excise related destocking in France. We also have a stronger comparable periods in the second half of the year. Therefore we expect some moderation in overall beer volume growth in the second half of the year and that is especially in Western Europe.

Secondly, the rate of revenue per hectoliter growth in the second half is expected to be a bit lower due to a negative country and channel mix. Thirdly, we will continue to invest behind our brands and sales execution, so marketing and sales as percentage of revenue will be higher, and finally, our certain central head office IT and other program costs that are a bit more weighted towards the second half of the year. But although the second half will have lower growth, we overall expect a healthy financial performance for the full year.

In the first half of the year, group operating profit margins were up 130 basis points with margin expansion in all regions with the exception of Asia Pacific which was in line with last year. We achieved strong margin expansion of 200 basis points in the Americas, led by a significant gains in Mexico and Brazil. Due to the phasing of our full year profitability as just explained, we expect operating profit margins in the second half of the year to be broadly in line with comparable period last year. However overall we still expect to achieve margin expansion in 2014 which is ahead of our medium term annual target level of 40 basis points.

Beyond the current year, we expect further margin progress to be underpinned by ongoing efficiency gains post our TCM programs, effective revenue management and favourable geographical mix from the faster growth of our higher margin regions.

Our diluted earnings per share was up €0.16 or 14% in the six months amounting to €1.34. This includes a benefit of €0.33 from higher organic operating profit growth and €0.07 improvement from lower net interest expense. This was only partly offset by a €0.14 impact from the higher tax expense, a negative consolidation impact of €0.01 and adverse translational currency movements of €0.06. The effect of higher minorities and the lower share of net profit from joint ventures and associates reduced earnings per share by combined €0.03. This unfavorable currency impact in the first half was driven largely by the depreciation of local currencies in Mexico and Nigeria, Papua New Guinea and Indonesia versus our Euro reporting currency.

Based on the latest spot rates, we now expect some upside from translational currency movements versus the earlier guidance we provided in February. The negative translational impact is now expected to be €70 million at consolidated operating profit level and €50 million at net profit line.

Finally, a word on the free operating cash flow, which increased substantially to €571 million in the first six months. This is mainly due to a 32% increase in the cash flow from operations driven by a significant improvement in working capital and in particular in accounts payable. This follows a peak in sales in the second quarter which led to a higher payable balance at the end of June. Further the movements in accounts payables in the first half over last year was lower than normal due to the effect of the excise related destocking in France which accentuated the positive moment this year. As such we do not expect this benefit to be fully retained for the full year with working capital returning to more normalized levels for the full year. We continue to deploy our capital to support future growth.

In July, our new 1.5 million hectoliter brewery in Ethiopia became operational which will enable us to meet further growing demand for our brands in that country. We are also investing in new greenfield breweries in China and Myanmar and expanding capacity in other growth markets such as Nigeria, Vietnam and Indonesia. For the full year we therefore still expect a cash conversion ratio of below the 100% primarily reflecting these higher capital investments.

On that note, Jean-François and I would like to take any questions.

Question-and-Answer Session

Operator

(Operator Instructions) We will now take our first question from Ian Shackleton from the company Nomura.

Ian Shackleton - Nomura

Yes, good morning Jean and René. You are not setting a new target for TCM3 today but clearly you are talking about the 40 bps per annum going forward. I mean how should we think about the cost savings potential? Is it the same sort of run rate? And I guess linked to that, what is happening on A&P, I think you talked about a 7% organic increase in sales and marketing. I will be very interested to know how much you’ve increased in Western Europe, which I know you have been focusing on, and how should we think about that number also going forward in the next couple of years?

Jean-François van Boxmeer

Yes, Ian, obviously we will continue to work on the costs and that will stay very very high on the agenda and in the release we already indicated the number of areas where we continue to work. But we thought it would be more meaningful ultimately not to guide on the gross amount of savings but show what the effect would be on the operating margin going forward. And obviously that operating margin is a mix of the cost savings we are doing, revenue management initiatives on the other hand, and increased BTL spend. We have upped our investments behind brands and innovation this year and we will continue to be aggressive is maybe not the right word but we will continue to further invest behind our commercial activities, and so that will balance and that will be partly funded by further cost savings. But overall I think it’s important to see that structurally we are increasing in an sustainable way the margins going forward.

Ian Shackleton - Nomura

Would you be able to give us a little bit of a feel of what happened in Western Europe because in some ways you got revenue growth of 5 [indiscernible] growth of 8 to 9 with some big cost savings presumably it’s been quite of the increase there in the A&P spend, I know you’ve flagged it year over year.

Jean-François van Boxmeer

Yes, as we said we don’t give specific figures but we have upped our investments in Western Europe importantly and the good news is that you see that we get traction out of that, we are winning market share in almost every market in Western Europe. So we think we are really on a good track there.

Operator

And we will now take our next question from Andrea Pistacchi from Citigroup.

Andrea Pistacchi – Citigroup

I have a couple of questions please. The first one on margins. I know medium term the guidance you are providing, you seem to be clearly optimistic about the outlook more so than you have been in the past six to 18 months. Now so what has really changed if anything to give you the confidence to guide to this 40 basis points in the medium term given that the macro in some markets remains uncertain, the competitive environment doesn’t seem to have changed much in markets. I believe in terms of cost savings, there is no change there compared to your plans. So what you feel has changed for the better in the business to give you this confidence? And then secondly more specifically on H1, H1 has turned out to be very strong, probably stronger than your expectations at the beginning of the year. A small portion of this seems to be the phasing of head office costs, but then also the very good volume performance with some one-offs in it like the weather, the World Cup. Is it fair to say that even on an underlying basis, H1 turned out to be quite a bit better than you were expecting six months ago?

Jean-François van Boxmeer

I start replying to your second question and specifically to the other part of your question. In part it’s true because when you have – you are deploying commercial programs which are centered around essentially innovation and brand rejuvenation, you never quite totally know where you can land it success, you think and you plan for success, the extent to which you will have success remains largely unknown. So you make a safe guess in saying yes, it worked a bit better than we hoped for and that is good. It’s only encouraging us to continue on the path that we have been taking here.

On the second of your question, which is about the margin guidance. It’s more – it has more to do with our own operating model and our programs, our strategic direction, then with how the market evolves. It is the allocation between top line investments and saving and productivity programs that we have been having in place for now close to a decade in a very systematic way, that we will continue of course to have these programs. The allocation of the benefit of savings programs between what flows through at the bottom line and what we can allocate to making our top line growth is something that is competitive. We held it as discretionary but we feel confident now to give a guidance on how we want medium term to improve our margins as a player in the industry.

Andrea Pistacchi – Citigroup

And then if I may just a quick follow up please. On the Tiger brand, before you went through your premium brands saying that the progress they are making rollout into new countries. Could you update us on Tiger where you are with the rollout there? You’ve clearly put it into the UK, how is it doing?

Jean-François van Boxmeer

It’s doing fine in the UK. We don’t advertise it as a global brand because we do not handle it as a global brand but rather as a regional brand at this moment in time. It’s main deployment is in Asia, its main deployment is in the mainstream plus sold just under premium in Asia. And it is growing really at a superb rate. Remember again we have acquired the full of APB back in 2012 and one of the prizes of owning APB was owning the Tiger brand in full. And we’ve always believed in the higher potential of the Tiger brand and that’s what we put now on that to work in many countries in Asia. Noticeably it is making big inroads in Vietnam. It is at the corner of how we grow our market share in the country as one of the highlights of the success story. But overall the brand is growing successfully.

Operator

And we will now take our next question from Trevor Stirling from company Sanford Bernstein.

Trevor Stirling – Sanford Bernstein

Three questions from my side. The first one, Jean-François, obviously it’s a cracking set of results this half. Which element pleased you most?

Jean-François van Boxmeer

I think what pleases most is the top line and I think that is ultimately what is the most important and not so much just the top line because the weather was better, and we had the World Cup. But the underlying performance, where we see that we really are winning market share in important markets, I think that gives us confidence going forward.

René Hooft Graafland

I would add the innovation rate. We have set out a long term 6% rate when you were at 7.4%, it indicates it’s going – it’s working for us. So it’s top line but that is really the good news.

Trevor Stirling – Sanford Bernstein

Okay. The second question, Africa was a strong contributor to the performance. Is that primarily Nigeria or would you highlight other markets as well as contributing to that margin expansion in Africa?

Jean-François van Boxmeer

As you know Nigeria is our most important market in Africa and they had a very strong first half year. So it is the main driver of the results but that doesn’t mean that also other countries in Africa were contributing.

Trevor Stirling – Sanford Bernstein

And then final question, more technical, the head office costs, there was a 55 positive swing this half. I think you indicated that the second half will not be as good, should we be expecting actually a negative swing in the second half or can you hold some of the gains in the second half?

René Hooft Graafland

Yeah, so far the head office costs is the charges to the operating companies. As you have seen we have increased the royalty on the Heineken brand which in the underlying performance we’ve treated as an consolidation change. But [inaudible] these charges are their JVs as its charges, so that has an effect on the head office combined with strong cost agenda but there is some phasing, also the packaging business had a very good first half year and not sure if that will continue for the full year but so don’t expect in the second half year a repetition of the first half but – well so it will be much more moderate in the second half of the year.

Operator

And we will now take our next question from Chris Blaine from African Alliance Capital Markets.

Chris Blaine - African Alliance Capital Markets

I wanted to ask you about your soft drinks business in Africa, specifically you’ve invested in new equipment in Rwanda to save costs but the market has been soft. What is happening there and specifically in Rwanda has the soft drinks business dragged that business down in the first half?

Jean-François van Boxmeer

No, sorry, let’s not comment on individual countries. What you see is we believe pretty much in the potential of the soft drink business in Africa together with Coca Cola, we have the Coca Cola license mainly in central Africa, together with them, we are on ambitious growth path and therefore hence we invested behind that. At the same time you see in the markets like Nigeria where we don’t have the Coke license but we have non-alcoholic propositions like Fayrouz, like Malta brands and they are performing very very strongly.

Chris Blaine - African Alliance Capital Markets

I was just concerned that it seems like the soft drinks business across the continent wasn’t as strong as the beer, so that was what I was wondering about what’s driving that.

Jean-François van Boxmeer

It is true. Your analysis is – but it’s still positive but it’s a bit less strong than beer, you are right. But we don’t see that as an alarming factor.

Operator

And we will now take our next question from Andrew Holland from company SG.

Andrew Holland – Societe Generale

You’ve talked a bit about your larger markets in Western Europe. Could you talk about some of the Southern European markets, the austerity markets. And you talked I think earlier this year about volume growth in four out of the five; is that still the case, or has Italy shown any growth? And the second question is just on your margin guidance, just to be clear, when you are talking about 40 basis points, is that at the group level or the consolidated level?

René Hooft Graafland

So to start with the last one, the 40 basis points is on consolidated level. And Western Europe had growth in the first half across all markets, including Italy.

Andrew Holland – Societe Generale

Do you – just to follow up on that, obviously there has perhaps been a little bit more macro quarter around some markets in Europe. How do you feel the outlook is for the second half particularly in the austerity markets?

Jean-François van Boxmeer

So in Europe for clear – if we talk about slowdown of volume in the second half of the year, that’s mainly linked to Western Europe where you had spectacular first half but we know that overall because of the demographics the trends in Europe are not positive and that is the thing we know and we just handle, to compliment Rene – let that be very clear, we don’t have in our business model the markets growing in Western Europe to grow our business. They will have to grow our business despite the category decline which is mainly fuelled by two things – the demographics as Rene indicated but also tendentially lesser alcohol consumption per capita. That’s already going on for 25 years. If you take the statistics of the WHO it’s going – it is going tendentially down as well as the demographic reservoir is going down. So you have to grow your business in terms of share, with innovation and premiumization, that’s what we do.

Now we have been enjoying a very strong quarter two because of a very good weather and the World Cup. But what I would like to say is that we gained market share in all the markets in Western Europe because we are investing in the premium end of our portfolio and in innovation and in more brands, in an enlarged brand and format offering, and also a certain assertiveness with our commercial channels.

Andrew Holland – Societe Generale

Okay. So just given those various factors of good stuff being done by you in the market, but headwinds at the macro level, your beer volumes were up 6.5% organic in the first half. Do you think they will be positive in Western Europe in the second half?

Jean-François van Boxmeer

We don’t be specific but you know that as we have said the underlying trend is negative. We have strong comparables, Q3 last year was good because weather if you now look out of the window it’s in a completely different picture. So in that sense don’t expect too much from volumes in Western Europe.

Operator

And we will now take our next question from Chris Pitcher from company Redburn.

Chris Pitcher – Redburn

Couple of questions. Could you talk in a bit more detail about the improvements seen in Vietnam? You mentioned improving consumer sentiment, maybe talk a bit about the competitive dynamics there, because that was encouraging. Secondly, maybe it’s too early to say but are you able to make any comments on the outlook for Nigeria given the Ebola outbreak? It was encouraging that the markets improved but whether that could take the recovery down? And then thirdly, back to the margin target, I know you are not giving cost saving targets but can you give us more feel why you felt that the need to give the market a margin target and specifically it appears that you are guiding to an operating beia margin i.e. post currency movements. So just the confidence of you delivering 40 basis points caveat any dramatic movements in the dollar?

Jean-François van Boxmeer

So let me start with Vietnam. Success of Vietnam is a market share. Yes, we have seen a little bit improvement in the markets and it’s measured by consumer sentiment and the market going slightly up again, and we are gaining market share. It’s essentially driven by Tiger which has been positioned in the mainstream plus and having a phenomenal success, as well as our Larue brand which in central Vietnam is the mainstream brand and also gaining traction. So competitively in Vietnam we are doing well. Whilst I always recognize that on the Heineken brand, we are still under pressure in Vietnam we – I have said that many times we were perhaps historically a bit over eaten the brand in the greater cycle of the overall our position both in terms of market share, sales and profitability in Vietnam is improving, so that is very satisfactory.

Second question relating to Nigeria and the Ebola outbreak, obviously we are not – I am not at the WHO. I have a great confidence in the WHO handling that crisis. This is a fantastic organization that has been decades around and a proven record – track record in combating the infectious diseases. The Nigerian government is very much tied with the organization, it’s quite I would say efficient in the measures it has taken and we have confidence into that, the impact on Nigeria is as you know limited, other countries have been hit harder. We are very close to the development. We have taken great care. Our medical community is on the brink but the lead into that issue is the WHO, we watch very carefully, as I can see it, the WHO is there to make sure that this infectious disease is not becoming a widespread across the population. So we have confidence that, that will not happen. That is what I can say.

René Hooft Graafland

Let me once more get back to your margin questions, or the margins. The reason why we give that outlook is because in most of the debates in the financial markets, this is about margins and people are very much focused on margins and in the discussions about PCM, each time the discussion was how much will flow to the bottom line and what will it do to your margins, and do we see that enough, yes or no. So we think it’s more relevant for you that we give our margin outlook and where we are aiming for it. And of course that is a mixed bag of a lot of developments and as you say if currencies collapse you will see that like we have seen in the second half of last year, that on your FGP margin or your gross profit margin, because of input cost that has a pressure. On the other hand, we feel comfortable on this 40 basis points year on year margin improvement, hence we commit to that.

Chris Pitcher – Redburn

Just to follow on that, is it right to interpret therefore you’ve identified significant buckets of cost savings such that you got movements within normal distribution of commodity and currency prices that you couldn’t manage through that situation, obviously if we get a dramatic movements in commodities or currencies that will impact but you can see enough in the business to manage through that?

Jean-François van Boxmeer

The answer is yes. The answer is yes. I think we have had and built up a track record and given a lot of detail of how we manage our cost savings programs, I have said it many times, the company which has no productivity – continuous productivity improvements would be dead. So we will continue with that. And again like Rene said, at the end of the day you will always ask what flows to the bottom line and this is just to alleviate variations in our decision to invest more in top line at the moment, and it’s never mechanical, the investment in top line is based on innovation, the more marketing, renovation of the brand, you need a little bit more time and you have a little bit more risk, cost savings and productivity is quashing an mechanism outcome but you cannot let it flow systematically only through the bottom line because otherwise you never activate your top line.

And for the variation of commodities and currencies, we are a worldwide company. So we are a) pretty hedged by that situation, and secondly, we have an experience in that. From time to time you can get hardly hit but you always have to eat your cool because devaluations can be structural over a very long time and then you have to resort to pricing, or there can be more short term and linked to monetary flows forth and back, and can restore as we have seen in a number of countries and there you should not overreact into pricing. So that is how we go about currency fluctuations but at the end of the day, we have to manage the company for an EPS – on an earnings per share which is expressed in Euro and we are very, I would say, [focused into that factor].

Operator

And we will now take our next question from Thomas Russo from the company Gardner, Russo and Gardner.

Tom Russo - Gardner, Russo and Gardner

Jean-François, could you give us a brief brand health update for China and for Mexico for brand Heineken? And then also any color you might have to share from the Russian market in light of some of the disruptions that are discussed in today’s political scene?

Jean-François van Boxmeer

Heineken brand in China, very healthy, very good, growing healthily. Our strategic position in China is one which concentrates only on the premium markets and mainly on the Heineken brand, with second brand is Tiger as a – well not premium brand but mainstream up or lower premium brand but it’s essentially Heineken and Heineken is really growing very fast in China. So brand health and results in China are really good, we are currently building a brewery in near Shanghai to cater for increased amount. So that’s all in the green. Mexico, we are on a different stage of the light curve of the Heineken, it’s at the early stage of developing curve. There also it’s going well but it’s a long-haul adventure, which you will see the benefits in only a few years. So we are really in the building stage, it’s not so much about what profits we can make and how many – we cannot, we will never try to sell too quickly too much because that destroys the brand immature. We are in the beginning of the curve but seeing the signs of the Mexican beer market and also our strength in distribution, if you look in years ahead, we have a healthy reservoir for growth for the Heineken brand in Mexico and so far in this first stage so good.

And the third is the Russia, it is difficult to assess what the geopolitical situation and all the rising sanctions will have on our business, so far it has not a lot of consequences till now. And the negative and adverse effect on our business is largely due to tax hikes five years in a row, and commercial limitations to our business. That has been affecting the Russian beer market at large, catering for a 20% decrease of the market over the last -- even more I think 25% decrease of the Russian beer market over the last two years. That is what we are coping with. Now we are a very diversified company. So this is where our large footprint saves us. We are not Russia dependent, as you know, we even have a very strong competitive position we are on before in Russia, so we are not the largest player. So the exposure to Russia for the Heineken group is not a problem. Our supplies for our business are mainly Russian supplies. The business has been reacting very well to decrease in sales by again adapting itself. It’s one of these businesses which is extremely resilient and can adapt to very, I would say, large setbacks. So the performance – the financial performance has increased – has improved in Russia as we went into restructuring programs which were successfully led. And the good news on the sales is despite that our sales are back, the premium end of our portfolio is up and noticeably again the Heineken brand which is progressing in Russia. So there also we are in a good position to grow the premium end of the market in Russia. So it’s a mixed picture but we do believe that on the long haul, Russia still being a good market to be in.

Operator

And we will now take our next question from the Sanjeet Aujla from Credit Suisse.

Sanjeet Aujla – Credit Suisse

A couple of questions please. Firstly on the price mix developments in Western Europe. Please can you just elaborate on some of the deflationary pressures that you’ve seen in that market? Is that a big change relative to the previous quarters and do you expect that to proceed? And then secondly just a clarification, on your medium term margin guidance. Can you just clarify whether within that embedded you expect marketing spend as a percent of total sales to increase each year?

Jean-François van Boxmeer

Western Europe, I think the deflationary pressure is essentially coming from when you have lower consumer confidence, lesser spending; you have a higher competition between retailers on pricing and that expresses itself of course on the producers. So that risk is there more in some countries than in other but we cannot do away that there is a high pressure that we have from other industry players which we call deflationary pressure which is a pressure to bring your prices down. We have to fight. And the only way you can fight is to be frank, it’s the importance of your brand’s market share. You have to have most top brands and you have to prove to your customer that with your innovation, you can increase its margins and its revenue. So we wouldn’t like to go in conflict to relations with our customers. After all we are very depending with them but we continue to believe in a win-win situations where we can show that stronger brands and a healthy innovation rate is not only benefitting us but also the retail in terms of margin and velocity.

Now that links obviously to the support we give ATL, BTL as we call it, in Western Europe to that extent that we want to grow our market share and business in a healthy way without kind of entering into value destruction, inflationary cycles. That’s a subtle equilibrium. But to your question saying can we expect that ATL, BTL goes to the right forever, I wouldn’t. I wouldn’t go as far as that we have a healthy level of spending in Europe. It’s how you allocate your money that accounts, and not only the absolute amount.

George Toulantas

Operator, do we have any further questions?

Operator

Yes, we currently have further questions. We have Tristan van Strien from Deutsche Bank.

Tristan van Strien - Deutsche Bank

Just a question on West Africa, if you don’t mind. Rene, did I hear correctly you guys are building a greenfield in Nigeria? Just wondering if you could tell us whereabouts in Nigeria this is. And then in your venture with Cristal in Cameroon, just what drove that growth to the portfolio with the Heineken Amstel site or was the Mutzig site?

René Hooft Graafland

There is no greenfield in Nigeria but we are expanding in Nigeria and investing in capacity extension but there is not a greenfield, we have quite a good footprint across the country and certainly now when we will bring the two companies and Nigeria breweries and consolidated together, we have a wide portfolio well spread of breweries and so we invest in the existing breweries to extend them. Cameroon, there is very strong growth in the total portfolio of our license brands, and that affects – we wrote that in the press release a bit also the price mix in Africa which the revenue per hectoliter was down, that is because these license brands are in the revenues just by the license fee, but you divide them by the hectoliter, so the negative revenue per hectoliter you saw in Africa Middle East is partly caused by the strong growth of the license brands in Cameroon.

Tristan van Strien - Deutsche Bank

And just on your expansion in Nigeria, is that more a consolidated brewery platform, the Sona breweries or is that also the Nigerian breweries –

René Hooft Graafland

This is also the Nigerian breweries.

Operator

We will take our next question from Gerard Rijk from SNS Securities.

Gerard Rijk - SNS Securities

I have two questions. First about the shared service center in Europe. What I understand is that still six other countries need to be included in this and is there also further geographical expansion of this shared service center, either a concept to other regions in the world? And my second question is on the net debt to EBITDA. You are quite already nearly below the 2.5 times mark. At what level of net debt to EBITDA are you taking a look at your -- the [average of difference]?

René Hooft Graafland

First, the shared services center, yes we are moving quickly into that. There are still six countries to go. We also are looking at scope, so the number of processes, and we’re very much transactional finance focused, we have seen now, we have put in a reporting part of consolidation. We are putting into it. We use the learnings out of that outside of Europe without bringing them automatically into Quacko [ph] because we don’t think that that is always making sense. But the way of working, we expand now outside of Europe, so we take the practices and the processes which we bring to countries like Mexico or we bring into Africa, Nigeria, so in that sense we are very much helped by GPS in improving the productivity of our support functions.

Net debt to EBITDA, yes, it’s going down fine. We have a commitment towards the rating agencies to bring it down below the 2.5 times at the end of the year, and we will be there and that it gives us flexibility to make choices going forward.

George Toulantas

Operator, do we have any more questions? Operator, are you there? Are there any further questions?

Operator

There is further – six further questions.

George Toulantas

Okay. We continue.

Operator

We will take our next question from Karel Zoete from Rabo Bank.

Karel Zoete - Rabo Securities

I have two questions. The first one is with regard to your market share gains in mature markets, you speak a lot about share gains in Europe. Can you provide some color how much market share you have gained? And also in the US you seem to be gaining market share. Can you talk on that? The second question is on grain prices, they have been soft over the year but early in the season, what are you seeing in terms of harvest from malted barley and prices going forward?

René Hooft Graafland

First of all, on market share we don’t give specifics but the trend thing, you are right, across Europe, the growth showing in countries like Vietnam as Jean-François explained earlier, or a good news in the US, we are taking some market share. We are in the plus where the market is slightly depressed, so Nigeria, you see all across our portfolio there is a good momentum in market share. On input costs, we have given the guidance for this year, we’d say they are stable to slightly below. Interestingly enough when you look later in the release you will see that the input costs per hectoliter are up and that is mainly the translational or the transactional effect which we have in markets with weaker currencies where input higher currency – input cost. So the prices themselves are soft which is positive but the currency worked in a part of our portfolio against it. Going forward as always we give a clear guidance in the beginning of the new year and not half way because it is still very uncertain which direction prices will go, because the harvest has not taken place yet.

Operator

And we will now take our next question from Anthony Bucalo from company Santander.

Anthony Bucalo - Santander

Just two questions on the US. The first is that your shipments were obviously running way ahead of your depletions. Is it safe to assume that most of that is pipeline fill for Dos-A-Rita and possibly Strongbow as well, and that we are not building inventories too heavily into the summer? And then second question is a follow-up on Tom’s question about brand Heineken health. It looks like you had the brand stabilized in the US right now, do you think you could get some growth out of that going forward? Are you seeing anything in your brand metrics that indicate that brand Heineken may have a better future?

Jean-François van Boxmeer

We manage our company on depletions, not that much on shipments. So you are right to say so, our management – our team in the US manages on depletions and we measure our performance on depletions and our market share measured at retail level. So we are making slight progress. The Heineken USA business is making progress and still a difficult market, still a market under pressure, and we are gaining slightly, slightly, slightly market share. It’s portfolio business, so it’s not dependent on Heineken only, but it’s majority based today on our Mexican portfolio which is growing double digits and the Heineken which has been in decline for a number of years and it seems now to stabilize into its real active market position for a while. Obviously our ambition remains to one day growth the Heineken business, again that we want to do it back on its own merits, not on price decreases or that kind of thing. So we remain confident on the medium term but Heineken can grow again in the United States of America but it is also a regional deployment you have to consider. And we are mainly – we have been historically under pressure where we were strong, which is in the North Eastern part of the United States. The beer markets and especially the larger beer market is redeploying in the southern belt of the United States. So this is also where the Mexican portfolio is growing the hardest, this is also where the future of the beer market for larger beer lies. So it’s also a regional redeployment of our business that we are working on. And so we are happy with the performance of our Heineken USA business and we are confident that the Heineken brand is still a brand that has growth potential in the US. Do not forget for the Heineken brands, the US remains still today by large – our largest single market for the Heineken brand. So it is a beacon market for us.

René Hooft Graafland

And then maybe just to add on the technical thing of depletions and sales. As Jean has said, you need to look at depletions but sales as you indicate are ahead of that. You will often see that going into the season a lot of elements like the supply chain organization and planning behind that, but that will normalize by the end of the year and in principle stock levels should not be higher at the end of the year than last year apart of the growth of the business, the model growth of the business, so that difference you see in the first half will reverse in the second half of the year.

Anthony Bucalo - Santander

Now the Dos-A-Rita brand, where are you in the pipeline fill in terms of getting distribution to match the typical Heineken portfolio distribution right now?

René Hooft Graafland

That is still in the early phase but that is not causing that big difference between sales and depletions. That has not to do -- Dos-A-Rita will probably play a role in that but it’s certainly not the major thing.

Operator

We will now take our next question from Andrea Pistacchi from Citigroup.

Andrea Pistacchi – Citigroup

Just a quick one on Ebola. Could you say how it’s impacting your business in Sierra Leone? I appreciate that it’s a very small country for you.

Jean-François van Boxmeer

Yes, indeed it’s a very small country. This is the country which is one of the three countries that’s hit the most by the epidemics. No consequences on our personnel so far. We have a medical department like in all breweries they are absolutely close to the situation, expats and families are out of the country except for those people who are essential for the functioning of the operations. It’s a country which lives a bit in isolation, that is for sure but it’s not going to affect the economics of Heineken and we do – or it has to be done to protect our people working for the breweries, so that is where we put our efforts as you can imagine.

Operator

And we will take our next question from Simon Hales from the company Barclays.

Simon Hales – Barclays

Quick couple of questions. Jean-François, I wondered if you could just talk a little bit more about where you think the innovation rate in the business may go, clearly, you have delivered your expectations and you talked about ongoing good momentum there. But is there a new 2020 target you would like to share with us as to how that might develop as percentage of sales over the next few years? And just secondly, on Nigeria, I appreciate that you’re still waiting regulatory approvals in terms of the merger of the two entities on the ground there. Is there any update you can provide us in terms of the timeline and where we are in that process?

Jean-François van Boxmeer

Yeah, on the first one on innovation, we will not issue a new guidance, 6%, 2020, I think it’s a good innovation rate. The innovations – the big innovations at the certain really phase-out like Radler, we started to introduce in Poland three years ago and some countries are going to be phased-out out of the calculation of the innovation rate. So I think we are ahead – we are satisfied with how we run innovation but we don’t see any reason to change the target we have set of 6%, that’s a good target and it works in balance for us well.

Nigeria, we have received the authorization of the SEC, Securities Exchange Commission which in Nigeria also is the authority that gives the clearance on the merger. But obviously we still have a number of steps there to go which are in the hands of Nigerian brewery who is in charge of operating the merger – scheme of mergers which is a court order, very much copied on the UK law, and we still need a few months of doing that and going through all these gates and meanwhile both businesses are run as they have always been in an autonomous way and in a professional way.

Operator

And we will now take our next question --

George Toulantas

Operator, we are now going to close the call. Thank you.

Operator

Okay, thank you.

Jean-François van Boxmeer

Sorry, operator. Thank you for your all joining this morning. In summarizing, we have delivered a strong revenue and profit growth in the first half. Our focus on higher brand investments, improved sales execution and increased innovation continues to drive share gains in key markets. We completed the TCM2 program earlier than planned with savings ahead of targets and at the same time we have quantified the medium term operating profit margin expansion target of approximately 40 basis points per annum. This is new and we will deliver ahead of this in this current year. This is expected to drive a healthy full year performance with balanced top and bottom line organic growth. With that, thank you very much for your attention this morning and I wish you a good day from Rene and I, bye bye now.

Operator

Thank you. That will conclude today’s conference call. Thank you for your participation. Ladies and gentlemen, you may now disconnect.

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