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Brown-Forman Corporation (NYSE:BF.B)

Q1 2015 Earnings Conference Call

August 27, 2014 10:00 AM ET

Executives

Jay Koval - VP and Director, IR

Jane Morreau - EVP and CFO

Paul Varga - Chairman and CEO

Analysts

Bill Schmitz - Deutsche Bank

Bill Chappell - SunTrust Robinson Humphrey

Ian Shackleton – Nomura

Mark Swartzberg - Stifel Nicolaus

Bryan Spillane - Bank of America

Robert Ottenstein - ISI Group

Operator

Good morning. My name is Jodi and I will be your conference operator today. At this time, I would like to welcome everyone to the Brown-Forman First Quarter Fiscal 2015 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (Operator Instructions) Thank you.

I would now like to turn today’s conference call over to Mr. Jay Koval, Director of Investor Relations. Please go ahead, sir.

Jay Koval

Thanks Jodi and good morning everyone. I want to thank you for joining us today for Brown-Forman's first quarter 2015 earnings call. Joining me today are Paul Varga, our President and Chief Executive Officer; Jane Morreau, Executive Vice President and Chief Financial Officer; and Brian Fitzgerald, Chief Accounting Officer.

This morning's conference call contains forward-looking statements based on our current expectations. Numerous risks and uncertainties may cause actual results to differ materially from those anticipated or projected in these statements. Many of the factors that will determine future results are beyond the Company's ability to control or predict. You should not place undue reliance on any forward-looking statements and the Company undertakes no obligation to update any of these statements, whether due to the new information, future events or otherwise.

This morning, we issued a press release containing our results for the first quarter of fiscal 2015. The release can be found on our Web-site under the section titled Investor Relations.

In the press release, we have listed a number of the risk factors that you should consider in conjunction with our forward-looking statements. Other significant risk factors are described in our Form 10-K, Form 8-K, and Form 10-Q reports filed with the Securities and Exchange Commission.

During this call, we will be discussing certain non-GAAP financial measures. These measures and the reasons management believes they provide useful information to investors regarding the Company's financial conditions and results of operations are contained in the press release.

And with that, I will turn the call over to Jane for her prepared remarks.

Jane Morreau

Thank you, Jay and thanks everyone for joining us today for our first quarter earnings call. I have the brief topics of plan on covering today and then I’ll leave with plenty of time to address Q&A after Paul’s brief comments. So first I am going to review the first quarter results then I am going to share some thoughts on flavor innovation on American whiskies and provide an update on our Jack Daniel’s Tennessee buyer test and then third I’ll discuss our full year outlook.

So let me first start with reviewing our first three months of the fiscal year. As we discussed in June, and as expected, we had a very challenging quarter in terms of comparisons versus last year. This was largely as a result of trade disruptions from recent pricing decisions. We anticipated these actions would result in significant reductions in both retail and trade at distributor inventory levels. It caused some variability also in some of our buying patterns when we compare our results versus a year ago.

So what I thought I would do here is share with you some more specifics as it relates to the markets that were most affected by these inventory shifts to do start at both our underlying and reported trends, to provide some context when you look at our underlying trends which are depletion based and compare them to our consumer takeaway trends based upon syndicated data whether it’s note from NAPCA.

The common theme though that you’re going to hear as I talk is that each of these markets the consumer takeaway trends are much stronger than our depletions trends again illustrating the retail trade inventory reductions that happened in the quarter.

So let’s just first start with the United States. Now we’ve discussed this with you in June that we had significant price increases over the last two years as you know particularly on Jack Daniel’s Tennessee Whiskey where we averaged somewhere in the 3% to 4% range of pricing per year. That drove large buy in at our distributor levels and our retail level in the past two fiscal years in the first quarter. This year as we also discussed in June we reduced the rate of our price increases and to the like 1% to 2% range. And so what that resulted in as we saw very little buy in activity in the first quarter but a subsequent reduction in the inventory levels at both the distributor and the retail.

So we estimate when we look at the inventory levels at the retail and distributor levels in the United States they really have dropped significantly in the first quarter of this first quarter compared to last two fiscal years and then are fact below the pre price increases in 2012. So just to further illustrate I want to give you a couple of numbers here.

And when I use Jack Daniel’s Tennessee Whiskey because of course it’s our most important brand in the United States as well as around the world. In our underlying trend our depletion results for Jack Daniel’s Tennessee Whiskey declined 4.5% in the first quarter in the U.S. When you compare that to our adjusted blended takeaway trends, trends were up 2.5%. So you can see the significant difference between the depletion trends as well as the takeaway trends indicating that retail reductions in inventory levels which is not in our numbers that we report on an underlying basis.

Importantly also is that we’ve seen the Jack Daniel’s Tennessee Whiskey’s volume takeaway trends have been accelerating by about 2 points in the most recent three months compared to the trailing 12 months, which we believe bodes well for the U.S. business over the balance of the year when we look at our pricing volume balancing that we’re doing this year.

So set aside the U.S. and let’s go to the developed international markets which we saw deceleration in results in the quarter. Net sales were actually down 1% and some of that was due to lapping of comparisons to a year ago last year’s first quarter was a very strong in some of our key markets developed international markets. But a lot of it was driven by some strategic decisions we made to reduce our promotional activity. For instance in the UK we moved from a high low pricing strategy there to an everyday low price in one of our channels. What that resulted in is a short term hit to our numbers as retailers reduce their inventories in that market. But we do believe that’s the right action in the long term and will realize higher pricing as a result.

Where similar type of situations happened in Germany different reasons, but also to do with pricing but it caused some what we call variability in the customer buying patterns. So similar to what I just did in the U.S. I want to give you a couple of examples of what happened in these two markets.

Again using Jack Daniel’s Tennessee Whiskey as we look at the UK, the UK depletion trends again in our underlying sales for the quarter were down 16% whereas the takeaway trends are up much-much stronger and actually are growing they’re up 5%. In Germany the depletion trends were down 23% whereas the takeaway trends again were growing up 4%. So when you look at these two markets, there is roughly a 20 point spread between depletion and takeaway trends in these two important markets for us.

Moving onto Poland, we had another very challenging quarter, very weak economy there and a continued giveback from January 1 excise tax increase from a year ago from earlier -- from last fiscal year where we had buy ins. So what we’ve done because of all the noise in the numbers is we’ve made some adjustments we estimate the net adjusting for the reductions in the retail trade inventory levels that distorted our numbers significantly in the quarter so the ones I just described for the U.S., UK, Germany, Poland, actually resulted in our overall global net underlying sales for the quarter to be about 6% which is right at the low end of our underlying sales growth for the fiscal year outlook.

Just to mention a few other markets, in Europe that are really doing very nicely both under underlying net sales basis as well as the support of takeaway trends such as France, Belgium and Netherlands. We still are seeing some pressure, economic pressures if you will in Italy and Spain. But if you flip over to our emerging markets they had a very-very nice quarter grew quickly in fact they accelerated from last fiscal year that were up 15% in the quarter. We knew and we had described some of this to you previously that Mexico’s growth was going to up because of some favorable comparisons against the weak periods last year whether large givebacks.

But beyond that the majority of our other countries and emerging markets really enjoying strong growth because of mainly a lot of them but I just going to name a few of them. Brazil had very nice growth, Russia, Turkey, Indonesia, just to name a few.

So in summary while I said our underlying trends were up 3% net sales for the quarter to overall reported, we really believe that the underlying trends in sales when adjusting for these retail inventory adjustments were closer to 6%. When I look though however at the 3% growth that we had in top line for the quarter about 2 points of that improvement was driven by price mix. That combined with the reduction in our cost actually helped drive the 50 basis point improvement you see in our gross margins as well as our 5% gross profit growth that you saw in the quarter.

Moving on to A&P, you saw a reduction in A&P spend that’s really timing related only where you saw an 8% increase in SG&A as we continue to invest behind our people to drive our business including the route to consumer change we made in France last fiscal year. We discussed this at the end of last quarter call too we actually expected our first half of the year SG&A to be higher and so as the year goes on and we start cycling against these investments that’s the investment we made in France in the second half of the year we expect SG&A rate of growth to go down.

So pulling this altogether, our underlying growth in operating income was up 7% for the quarter, 1% on a reported basis. Our EPS grew 5% to $0.70 per share.

So let me now move on to my second topic and I want to discuss flavored whiskey and its impact on American whiskey renaissance and then I’ll take you on the Jack Daniel’s Tennessee’s Fire test. I thought it would hope to frame the American whiskey opportunity that we see by going back in time so let’s go back to 1970s and look at how many cases of American whiskey were sold at the time it’s about 100 million cases. And that’s when the consumption of American whiskey actually peaked. We’ll fast forward it to today where there is a 40 year secular decline in the category it's roughly cut in half so it’s about 50 million cases.

If you look at the U.S. population of legal drinking age at the time it’s grown about 50% meaning the per capita consumption of American whiskey has fallen by almost 70% over that period.

So, we witnessed an inflexion point in the U.S. American whiskey around 2010 where we really saw consumer interest in the category reignited. And so when we look at the work we’ve been doing over the last four years and the growth that has resulted, we think this is the first of many-many years to come of recapturing the lost market share that I just described to you. So when we look at what we think is the cause of this renewed demand of course those are multiple factors but I am just going mention a few, one is the rise of craft distilling, which is led by our own Woodford Reserve. The consumer interest in heritage and authenticity and what appears to be vodka fatigue. But I am going to focus on another factor I am calling a fourth factor today which is the importance of the flavored whiskeys.

So in 2013 in the U.S. the flavored whiskies accounted for about 45% of the American whiskey volume growth. Looking at what drove that was definitely demographics played a major role in that and with increased interest from women and minorities based on their changing taste profiles and preferences as well as convenience. I can speak to this I have a couple of millennial kids myself and I know I probably taught them to like things that tasted differently, but millennial definitely have grown up with many different flavor offerings whether it’s cereals or soda or water or juices. So they now expect to have all kinds of choices and taste and they want great tasting things.

And of course mixability and drinkability have played an important part too in the bourbon renaissance. So it of course is natural for Brown-Forman, our company to take this and leverage the sought after characteristics through our disciplined approach that we have towards innovation combined with our great American whiskey brands and innovate. And so that leads me to how we’ve been innovating and approaching flavored innovation and we’ve been doing it in two main ways right now. And first we’ve been focusing on different taste profiles and expressions of existing brands, so some examples would be Woodford Reserve Double Oaked or Old Forester Single Barrel or Jack Daniel's Sinatra.

And what these products had were different taste built off of grain recipes or barreling technology or aging requirements. But they served to be what we believe a great extension of our core brand offerings. They also were tended to be in the super premium price point. They definitely have generated positive publicity and also satisfying what is new in this era of consumers’ desire for discovery. So you can expect that we'll continue to selectively release these innovative offerings into the future.

So the second way that we’ve been introducing flavor into our portfolio brand is through flavored liqueurs into our whiskies. And of course we did that with Jack Daniel’s Tennessee Honey. That's selling over a million cases just after a third full year into the marketplace we’ve reached that last this past January and we think that speaks volumes to the global interest in the brands and really the success of our innovation strategy.

So this allows us to introduce the consumers to the brand and as well as offering new drinking occasions. And so while we’ve seen some recent bit of slowdown in growth rate of the brand in the U.S. as it begins its fourth year in the category in the large numbers takeover, we really do believe there remain untapped opportunities for the brand in this important market in the U.S. as well as we are going to continue to expand it outside the U.S. as we continue to do this year where the brand grew underlying sales well over 50%.

So you can expect that we’ll continue to drive the Tennessee Honey's growth around world that we’ve been testing as we've discussed with you previously our second full strength flavored expression which is Jack Daniel's Tennessee Fire. So test results from these three markets where we entered, where we started to test have been really-really encouraging both from a trade perspective as well as the consumer perspective. We’ve also seen nice halo in these three markets on the Jack Daniel’s trade market self for its gained shares with minimal cannibalization to both Tennessee Whiskey as well as Tennessee Honey.

So now with that, our plan is on rolling that Tennessee Fire to five additional states during the fall. And we’re readying our plan for a further geographic expansion, but our goal thus far is really in line with what we’ve been able to do with Honey and it's to create a brand extension of Jack Daniel versus the flavor of a weak approach. So we’ll of course update you on our plans in future calls as we go through this process.

So now that leads me to my third and final topic and I want to update you on our growth outlook for fiscal 2015, which we reaffirmed this morning. I know you can tell from our earlier discussion about the first quarter there is a lot of noise in it and so we do not believe the first quarter results provide a good read for our full year and that’s why we provided the adjustment for you to give you an idea that we believe that the underlying trend are there to keep us on track to deliver the 6% to 8% net sales growth that we shared with your on our last call.

Now this does assume that there is no further deterioration what we call the very fragile geopolitical environment in Russia where there is uncertainty around the government policies, how local laws may have been interpreted and enforced. This puts in context, Russia is important market for us, but in fiscal 2014, it represented 2% of Brown-Forman’s total net sales. So we have and we continue to expect to take price increases this year which we believe will drive modest gross margin expansion that we also described to you in June. This coupled with the gross profit growth continues leveraging AMP and SG&A but we will continue to invest in both of these categories. We believe we're on track to deliver the 9% to 11% operating income growth that we discussed in our last call.

So while our outlook for earnings per shares remains unchanged its still 3.25 to 3.45, we do see a drag as a result of foreign exchange about $0.06. So we also are seeing a slightly lower forecast and slightly lower effective tax rate somewhere around 29.5%, so we suspect that to offset to the drag from the negative impact of foreign exchange.

So in summary I know there is a lot of noise in the quarter, and I think you’re going to have quarterly noise and that’s why like to step back and pull ourselves back and look over long periods of time and really to look at the future. And when we look at the global demand for American whiskey, it remains solid.

We talked about innovation of the both the premiumization trends continue. And so what we think all that combines together is it positions Brown-Forman from what it will be another record year -- what we believe will be another record of both top and bottom line performance. And we look to the future, we know that we’ve got a strong balance sheet growing cash flow and that allow to invest in the future growth while returning cash to our shareholders through dividends and share buybacks as you saw in the quarter.

So with that I am going to turn the call over to Paul for some quick comments.

Paul Varga

Thanks, Jane and good morning to everyone. I am just going to add a couple of supplementary comments to Jane and I will be rather brief given that we are only 90 days into the fiscal year and we actually did a pretty thorough presentation on the company here a few weeks back at our recent shareholders meeting.

So all in all the quarter was pretty much in line with what we had anticipated and in many ways it was similar in my view to what I recall from the first quarter last year when inventory changes and buying patterns distorted the short term results somewhat. And of course the changes that Jane emphasized in her part are of course accentuated by the reality that of course we are just talking about a very short period of time here in three months. I thought most important were Jane’s examples comparing the recent growth rates and consumer takeaway versus depletions for Jack Daniel's. It’s three of our key countries, the U.S. UK and Germany particularly. And really a lesser extent of this inventory point that she was making. So it also important for understanding the results but it’s a source of reassurance to me that results should improve over the balance of the year as inventories come back in the line and takeaway actually drives the business versus the inventory shift.

So all in all the expectation of improving underlying growth rates and both sales and gross profit coupled with the continuing expectations as we had at the beginning of the year and had last year of decent spending leverage, gives us the comfort to reaffirm at this stage the full year earnings forecast that we provided just 12 weeks or so ago.

So that’s sort of is a nice summary that I feel of what the quarter said to me. A couple of other things looking ahead, Jane touched on Russia it is a bit more of a risk today for us than it was when we did our full year plan. And while no doubt an important market particularly to the -- it’s a very long term for Brown-Forman. We do take some comfort from the fact that our emerging market business today is quite well diversified and as we reported this morning, those markets collectively continue to perform very well with underlying sales in the quarter up 15%.

And finally I just want to add a point or two here on Jane’s comments about the flavored whiskey opportunity. As she said, Jack Daniel's, Tennessee Honey is off to another great start globally and we continue to have high hopes for it. Less visible to everyone has been the fact that a long sided we’ve been assessing the potential for this possible entry into the marketplace which Jack Daniel's Tennessee fire and so far I am very encouraged by what I have seen in the three state U.S. test. As expected this happens with almost with any Jack Daniel's that gets tested and introduced. There has been hatred and consumer curiosity and then therefore early demand for the product correlates well with that. So it is quite high. And as I said, we get this almost with anything we take into the marketplace with Jack Daniel's.

But beyond this, we try to read the test results and what we are seeing is they are indicating a very strong acceptance of the product itself which is always really important when we go out and introduce the product either on a large scale or into tests or even if it’s in stimulated test before an entry. So the product performance in the marketplace itself we consider it very important and that seems to be very well accepted in these test markets. As well on appreciation by many, for Jack Daniel's Tennessee Fire being in more premium, authentic and masculine alternative in this space.

So not surprisingly the Jack Daniel's would bring that kind of relevant imagery to the category. So we will be expanding to a few more states here in October and in the mean time we will lead the original three states for a couple of months more while we assess the timing and manner in which we will more substantively expand it geographically. It’s just an exciting opportunity for our U.S. business and we know there will be interest beyond the U.S. as well which of course we'll also be evaluating. So we’ll keep you apprised in the weeks and months to come on our plans more specifically for Jack Daniel’s Tennessee Fire.

So that’s all for our prepared remarks and we’re now happy to take any of your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Bill Schmitz from Deutsche Bank.

Bill Schmitz - Deutsche Bank

Could you just talk about how much of the emerging market growth excluding Mexico in my mind do you think is distribution gains versus same store sales? Is there a way to quantify that?

Paul Varga

We have a fewer syndicated resources that cover the broad distribution and particularly Jack Daniel’s in those markets. But you’re always building a little bit of inventory because we’re still at early stages of development there. But I think we’ve been in many of those markets now long enough that the double digit growth rates we’re seeing I feel are reflective of consumer takeaway versus inventory build. And they’re not all these markets will be very different market by market. But you tend not to see some of the buying patterns that you will see with these major customers that you have in the developed markets that have the ability to inventory and build four, six to eight months versus inventory. So I think -- my feel is that just because of the consistency with which the results has been coming forward over the last many years that it’s indicative of consumer takeaway in those markets more so than any kind of inventory build.

Bill Schmitz - Deutsche Bank

And then just a quick follow up could you set a revised time for the broader rollout of Tennessee Fire? Did I miss that in the prepared comments? So is there a time line when you think you’ll have national distribution?

Paul Varga

The only thing we just said was if you missed it was that we’re going to go in October to five more states in the United States and between now and then we’ll be assessing the plans for doing something more substantively in terms of a broader geographic expansion and we’ll keep you posted on it. But we’ve got some work still to do in observing a little bit of the performance in those original three states and we want to keep looking at how best to sell and market the brand that when we go to a broader geographic platform but all the signs are really encouraging that we’re going to be well accepted with it. It is just getting our ducks in the row.

Operator

Your next question comes from the line of Bill Chappell from SunTrust.

Bill Chappell - SunTrust Robinson Humphrey

Paul, Jane, can you maybe just help us understand what was different from your internal expectations in the quarter, because it sounds like a lot of the pricing and the timing of shipments was pretty much what you expected 12 weeks ago? So I'm just trying to understand if we look at maybe Finlandia or if we look at the growth in the tequila market, what was different from what you were expecting internally?

Jane Morreau

I think the only difference from my perspective for us not understand the impact of some of the pricing decisions that we’re making in the developed international markets now we understand them. But I think that was the main one we were still somewhat uncertain as it related to our brand Finlandia and what that was going to be what the price increases two price increases last fiscal year was going to have on the brand itself in Poland and still are evaluating that. But I think that those were the main two things. The brand part of the largest thing that happened was that affected our quarter was the U.S. and we anticipated it…

Paul Varga

I thought Jane’s examples on particularly the Europe I don’t think any of us would have anticipated you sided a 20 point difference between the depletion trends and the consumer takeaway trends in Germany in the UK we would have anticipated some of that, not to that size and so hope that will correct here in the assuming months as you start to have trading patterns that mask the consumer takeaway. So that would have been a bigger than we would have thought. I think the U.S. when we largely [in line] with.

Bill Chappell - SunTrust Robinson Humphrey

And does that change your longer-term outlook on pricing or how you would pass through pricing?

Paul Varga

Not at all. I think -- I mean some of it as we got more aggressive for two fiscal years we had some of the same thing with the building of inventories in the first quarter back when we did it. Now you’re coming back off of it a little bit in terms of the size of it so it’s accordingly appropriate adjustment and it hits the quarter.

Jane Morreau

And it does work itself out throughout the year though.

Paul Varga

It does, but the one thing you are always monitoring and it’s the reason we’re doing a little less pricing this year than we did in the prior two fiscal years is to just want to make sure the cumulative impact of the pricing isn’t too much particularly on a franchise like Jack Daniel’s where you have both ultra-premium or super premium pricing paired with very large volumes. And so that balancing act we’re always doing. But I think that’s the more important thing than -- and we always try to give you transparency to what’s happening as it relates to the shift in the inventories but in any event I think the more important thing is have the consumer and in some parts of the trade too or reacting to your pricing plans.

Bill Chappell - SunTrust Robinson Humphrey

Got it, and last one for me, just on further color on Tennessee Fire. As you said, Paul, you expected pent-up demand to have a good, initial response. Is there any more color in terms of -- is it cannibalization versus Honey or is it incremental or anything else you can give us? I know it is still very short.

Paul Varga

Yes, we would anticipate the early rates like I said, were so encouraging because it is very limited in terms of what we’re seeing in terms of cannibalization so far relative to both Jack Daniel’s Tennessee Whiskey Black Label and to Tennessee Honey, if anything its providing nice halo and some of its to be expected. The flavor profile that we’re testing of this Jack Daniel’s Tennessee Fire is a real different taste than either Jack Daniel’s Tennessee Honey or Jack Daniel’s Tennessee Whiskey Black Label.

So some of it by design I think, you would expect to be for different occasions or for different consumer palates and that in fact is playing out in this test so that’s encouraging. I think it’s more us wanting -- we’re also very much -- we’re trying to do a lot of things at Brown-Forman but also within the Jack Daniel’s trademark making sure that in the U.S. market and other markets that we’re appropriately focused on building Jack Daniel’s Tennessee Whiskey and Black Label, we continue to be really enthused about the potential for Jack Daniel’s Tennessee Honey. And so part of it’s to make sure that we don’t get distracted by the enthusiasm that’s out there, we manage it well.

And we can portfolio sell well and that we’re in tuned with any potentials that might exist for any cannibalization even though it's been minimalized so far. So I think -- and the other thing is just making sure we know how to market and sell and message these products to ensure the best collective success for the Company and the trademark and that is always a trial and error process, making sure you get that messaging right, the ways of spending investment between channels. And so part of it is I think the necessary exercise of using the test in fact as a test ground to see what might bring the best results for us.

Operator

Your next question comes from the line of Ian Shackleton from Nomura.

Ian Shackleton – Nomura

A question around tax. You got into a lower rate this year. I wonder if that is reflecting a more sustainable lower base. I am aware, I think, some of the moves you made in Europe may be helping with the tax situation, so just interested to know how we should think about that going forward.

Jane Morreau

Yes, those taxes as you know for us I think we have the highest tax rate of all of our competitors than something that we’ve been very-very focused on and looking for smart ways to reduce our tax rate. And of course one of the biggest ways is to continue to grow your business outside the U.S. like we have been. We’ve been growing at a fast clip outside the U.S. so that definitely has provided a reduction on our tax rate and it’s continued to do so. So if you look over the -- I guess the next several years at period time, I think that you could expect our tax rate to be somewhere around in the 30% range.

Ian Shackleton – Nomura

Great, thank you. And perhaps just to follow up, Australia as a market you were quite cautious about last year. It sounds like that's doing quite a bit better with the growth now. Has that changed for the better?

Paul Varga

I think its a little combination of both. I think within the quarter, there may be easier comps down there versus what we had a year ago. But I know that the team there is a little more it’s a very competitive market, I'll say that as it relates to what’s happening at the trade level. And so of course innovation remains really important down there particularly as it relates to the RTD business.

And that team is, I think in a better position today as they think about the market place, but I will say that the one thing about that market place mid to long term is the pressure from those excise taxes that have hit all distilled spirits, in my view, have been significant and disproportionate to spirits and have been one of the influencing condition to slow the lackluster growth in the market place. And I actually think getting some relief on that through government lobbing et cetera is a really important thing in the industry, if it intends to have any kind of consumption growth down that market.

Ian Shackleton – Nomura

Is there any sign of success there? Because I know it is an issue being campaigned on for a while there, Paul.

Paul Varga

Yes, it’s a long slog as you know. I mean you’re going to hear I mean you would have heard it for a number of the competitive companies in this industry in Poland and Jane highlighted here. I mean it is -- as we look around -- you think about the topical issues, you don’t want these excise taxes to become so rhythmic in the way that they have from year-to-year particularly within country. And you occasionally have things like U.S. consideration of legalization of marijuana becomes a big threat. You try to assess and look at and think about long-term.

These excise taxes though particularly with governmental departments needing the revenue and us perceived as an easy target. As regressive as sometimes these taxes are, have really, I think, been more present in our business over the last five years than any of us would have anticipated. And you just look to Poland right now, they do have an impact on the affordability and so it requires both lobbing and it requires innovation for the suppliers and owners to go and innovate around it so that they can bring products to market that maybe not be as high a proof is the other way to do it because a lot of this is based on proof.

Operator

Your next question comes from the line of Mark Swartzberg from Stifel Nicolaus.

Mark Swartzberg - Stifel Nicolaus

I guess a few questions. Firstly, as we think about your outlook for the year, your plus three start and your adjustments to plus six given the takeaway dynamics being better than the shipping dynamics it still implies you are looking for an acceleration over the balance of the year given your 6% to 8% view. So I know this is a mechanical questions but when you think about what’s going to drive the acceleration, is it Tennessee Fire, is it a particular country? I am just trying to square that circle?

Jane Morreau

I think that’s a great question and something that we’ve been studying as you can imagine. So as we look at I think the main driver of it will be the United States is where we are looking for the big growth to come from, it’s not Tennessee Fire, Tennessee fire is all we have in the numbers, we do not have a national rollout in the numbers so. So it is the U.S. and as you recall the discussions that we had in June in terms of our rebalancing of pricing and volume if you will this acceleration after the first quarter even though I have made this adjustment we are still expecting improving trends which we have seen and I alluded to that to in my comments in terms of the takeaway tends for Jack Daniel's Tennessee Whiskey brand itself. So it’s the U.S. largely is one of them, we’ve got to see some continued growth improvement though in the Western Europe markets that I discussed and we have reasons to believe that will happen based upon some of the plans they have in place.

Paul Varga

I think the other thing I'd add that just helps particularly when you are discussing it during Q1 is that as tough as our expected comps within the fiscal year we are going to be forcing Q1. We would anticipate at least based on history and barring any new news that our Q4 comps would have been on the easier side relative to what we had sort of facing this in Q1. So there is a counter balancing thing but nonetheless as we go along in order to accomplish these -- the forceouts as you indicate, things do have to accelerate, we expect some of it to come back through inventory of course but we also feel like you do need an acceleration as you go through the year.

And there are just other -- remember some of the buy-ins there will be particular periods and particular countries we will up against other buy-ins. The Polish tax increase is one such example later in the year but we'll try to keep you all current on where those inventory shifts are occurring and when they are not and how Brown-Forman is either benefitting or being hurt by them. And but nonetheless I mean part of it is we really only do have 90 days, we think we have a decent feel for the inventory impact on us. And we feel comfortable affirming the guidance today based on what we know.

Mark Swartzberg - Stifel Nicolaus

Fair enough. And if I could follow purely on the U.S. for a moment if you will, ignoring the inventory dynamic, when you look at the takeaway you are actually seeing and look at it on a total North American whiskey basis, how would you characterize those rates of growth versus say earlier this year or year-ago levels? Are they in fact accelerating? I heard your prepared remarks, that was quite unclear if indeed takeaway for your Brown products if you will is in fact accelerating and then kind of relating to that vodka fatigue in some ways is a good thing for you guys but we are seeing promotional activity there pick up. So could you just speak about how that’s affecting again the Brown component of your portfolio from a takeaway perspective here in the U.S.?

Jane Morreau

I don't know if you get Nielsen data, I can read you some numbers just to give you a feel for North American whiskey and their trends both on the three month basis as well as the 12 month basis. So the trends have accelerated, they are improving still on volume basis or value basis and let’s look at volume basis, it’s nearly 8% on a three month basis and it’s about the same as it was a year ago. So I guess on [indiscernible] but it’s still much stronger than the TDS category which has I guess slowed slightly in the three months period I think some of that is due to the vodka category if I look at the vodka trends which continue to slowdown.

Paul Varga

And for us, within it, I think how I -- one little difference that we might observe and Jane has touched on it within the quarter, is because is now you are focused here only on the United States is that and this is a continuation of last year’s results where Woodford Reserves within our portfolio continues to really do well and performing very much above the performance of North America whiskey generally one of the brands, one of our oldest brands, our oldest brand Old Forester has been accelerating and its performance over the last 18 months to 2 years, but those would be real highlights of course Tennessee Honey as a flavored expression has done very, very well but those rates as Jane mentioned have been coming down some of the higher basis.

The Jack Daniel's Tennessee Whiskey volume metrics are going up but associated with it’s not just because we’ve been taking less price you will see less price the price mix will come down suddenly on that. And then brands that have been performing below North American whiskey and it depends on broadly to fan it within our category in the United States would be, our Canadian Mist, Early Times and then even if you went so far as to include a branded straddles that which would be Southern Comfort has been a brand that we from time to time refer to even though it is liqueur, as a flavored whiskey it would be performing below. But that’s consistent with some prior year reports as well.

And I think the big changes that people might note in the first quarter are slightly different delivery of the sales dollar growth on Jack Daniel’s with volume accelerating here more recently and Tennessee Honey coming down off some of those higher growth rates to more moderated levels of growth. And remember that’s reporting only retail business primarily the one encouraging thing about the U.S. market that we’re starting to hear and see some data for is improvements in the on-premise trends and we certainly can note that for Jack Daniel’s Tennessee Honey brand as versus the first couple of years it has really picked up its momentum in the on-premise relative to the off-premise.

Mark Swartzberg - Stifel Nicolaus

That’s great, so beyond is -- so we’ve heard the same. So you are seeing the on. Final one is just can you speak more to whether you think this dynamic with vodka is actually good or bad for your brown spirits?

Paul Varga

Well, I mean I think certainly for the brown spirits it’s -- I mean if people shift out of white goods and go directly to net-net that’s great for Brown-Forman, particularly its American business.

Mark Swartzberg - Stifel Nicolaus

And what I am referring to is the promotional activity picking up specifically?

Paul Varga

Yes, I mean actually I think promotional activity picking up and I would say not just these -- and I’d say that’s a globally and I wouldn’t confine it just to vodka either. I just think when you have softness in emerging markets when -- for some of our competitors, when you have some of the corporate growth rates that we observe with some of our competition, particularly the underlying sales growth rate you anticipate that they will fight and compete for that sales dollar more aggressively. And that goes across categories in my view and it can be observed on strong trademarks that might exist and everything from rum to gin to Cognac, to vodka, so we anticipate and it varies market by market, the people are will continue to be competitive and that sometimes will take the form of promotional pricing. I wouldn’t say that it’s at a level that I would find out of control or something that I would raise it’s any different than what I might have observed three or six months ago.

I think the other thing that we continue to watch out for are what the new innovations the competition are bringing because at new forms of competitive activity in the marketplace and so it’s a reminder to corporations like Brown-Forman are doing well that they too need to be innovating and continuing to bring products to the market that can meet the needs of the consumer in the trade. So, the two things we’ll keep a close eye on are what level of promotional pricing are out there and the level of competitive introductions in new products.

Operator

Your next question comes from the line of Bryan Spillane from Bank of America.

Bryan Spillane - Bank of America

Jane, I want to just go back through, make sure I understood a few of the components that you outlined in terms of just breaking down the first quarter. The underlying growth to the bridge, I guess, from 3% in underlying sales growth to an adjusted 6% is really just the change or the effect of distributor inventories -- I'm sorry, retailer inventories coming down. Is that right?

Jane Morreau

That’s correct. The distributor inventory is already reflected in our numbers.

Bryan Spillane - Bank of America

Okay. The just rough weighting, just how much of that gap, if you will, between 3% and 6% was the US versus what you saw in the UK and Germany? Just trying to get a rough idea of the proportions in terms of how much they might've contributed?

Jane Morreau

It was about two third, one third U.S. versus Europe.

Bryan Spillane - Bank of America

Okay. And then if I'm looking at operating income, and I know you guys measure yourselves -- one of the measurements that you use for management is depletion-based adjusted operating income. I guess if you were looking at that measure, just trying to get a sense for what the profit implication was in the quarter for the change in depletions because of the inventory adjustment. Just trying to get an understanding of how much of a profit hit it might have been.

Paul Varga

Because you have to flow the 3 points all the way down to the OI line.

Jane Morreau

It’s going through.

Paul Varga

It’d be more impactful to 3 with that.

Bryan Spillane - Bank of America

Fair to say, right, that the retail inventory -- the retail inventory adjustments, that effect in this quarter was one of the things that was probably a little, order of magnitude, was a little bit more than what you were expecting. When we look at it from an operating profit and earnings-per-share basis, there was actually a more meaningful unexpected drag in the quarter just because of that dynamic. Is that fair?

Jane Morreau

I don’t want to over exaggerate I think we anticipated to US as we anticipated some in Europe but it’s just not quite as extreme so I wouldn’t take that whole amount if you will but in theory it was a little bit.

Paul Varga

Yes and we were as fine-tuned in terms of our own even just as we don’t go and provide quarterly guidance on our earnings I mean I think it was a simultaneous qualitative and quantitative exercise that informed our expectations and so we just weren’t that obsessed with trying to forecast it in advance how much of the inventory might impact the overall bottom line earnings. We’ve tried to give ourselves some sense of how it might hit the top line, but nonetheless I think your point is relevant it did, it did of course have an impact on the underlying operating income growth rate.

Bryan Spillane - Bank of America

Okay and it was and is -- approaching this quarter, trying to -- the first quarter, trying to model it was like one of my kid's math word problems. There were just so many different components. And I guess, not trying to get you into a 2Q discussion, but if you could, just in terms of some of the big puts and takes that we might need to consider as we are modeling 2Q, do you have any color you could give us in terms of inventory adjustments or any of those types of things that, just from a big picture, at least, we may need to think about?

Paul Varga

I mean nothing that we would guide on. I think an expectation of improvement the only other thing that we know that it’s a different from prior year that we anticipate being a help the marketplace particularly competitively during important seasons as we anticipate there being more gift in value added cycles in at a greater level. Some of that I guess could hit, Jane Q2 just some of the shipments and Q3. So it might be split between Q2 and Q3. But otherwise I mean it’s the classic culprits of inventory shift, FX, I mean the things you’re trying to read in order to get down to a really good underlying number.

Jane Morreau

I mean I would just take off where Paul left off. I would think about, I think Q2 and Q3 will probably be more normal. I think Q4 will be a bit easier and I think component pieces of the P&L, I talked about SG&A a little bit, it will continue to be high definitely for the second quarter and start to come down somewhat in the third quarter, but really comedown in the fourth quarter. You will see spend more normalized. A&P spend, which was abnormal obviously for the quarter here timing related only, but I think that’s --

Paul Varga

And nothing on anything from Tennessee Fire as Jane mentioned in Q2. I mean, if anything had an impact in the second half at the earliest, I think as it relates to significant impact and of course we’ll just keep you post on that as we have plans that we are ready to talk about.

Bryan Spillane - Bank of America

Okay. And just, I have got two other short follow-ups. One, if there has been any change in the expectation for the capital spending range for the year. And then, the second, I guess following up on Mark Swartzberg's question about acceleration, just want to make sure I heard -- so there is acceleration that we should see just in terms of -- shipments should accelerate because of some of this inventory noise and that type of thing. But is there an expectation that end takeaway should also accelerate meaningfully? I guess that wasn't quite clear to me whether the acceleration referred to just what you will be shipping versus expecting some meaningful acceleration in takeaway.

Paul Varga

I don’t know that we’ve got that level where we feel like it has to jump up considerably certainly versus Q1 reported results. But at the consumer takeaway level, I mean, I think if there is one thing that could have an impact there is certain market by market examples we could give of this, but the one thing that you would anticipate having a positive impact is less pressure in the marketplace on consumer prices because of an important fact not getting as much benefit from taking price increases.

So I think that as with the passage of each month and as the prices establish themselves and you’re always thinking about that from a competitive reference point, so it will depend a bit on what our competition is doing as well. But I think versus the prior years if anything that would be a potential contributor to acceleration versus deceleration the fact that we’re taking less price.

Bryan Spillane - Bank of America

Okay. And then Jane just CapEx, any change in the CapEx guidance?

Jane Morreau

No, it’s unchanged, so 120 to 130 range, that’s what we expect.

Operator

Your last question comes from the line of Robert Ottenstein from ISI Group.

Robert Ottenstein - ISI Group

I was just wondering if you could help us ring fence the potential downside in Russia, how to think about the situation there? I know you said about 2% of sales, but if things got really bad, worst-case scenario, how much potential income statement impact could there be?

Jane Morreau

I think this is really too early to quantify the potential impact it’s really fluid situation, so.

Paul Varga

We’re obviously working more right now to, frankly in some way to understand it a chance to mitigate and communicate. And is direct ways as we can corporate with what we can considered to be the authorities in a very limited way from what we understand thus far with reflecting one region and with three stores just literally open up those lines of communication to try to administratively cooperate with them. And that’s sort of where we’re I think and really just premature to go and start doing any significant risk assessment at this stage. I think we want to get more information before we even undertake that exercise.

Robert Ottenstein - ISI Group

Okay, I can certainly, certainly appreciate that. Perhaps something easier to speak on, could you just kind of give us a little bit of an assessment of how the new French infrastructure is working out?

Paul Varga

Great so far. When last in the beginning of the calendar year and so you have a normal sort of transition issues in both the marketplace and the people themselves encounter being a new company but it was very well planned and I think we put investment in upfront so that it could launch in the way that it is effectively done and I would say that just more qualitatively the vibe that you pick up is when being around the people who are undertaking the Brown-Forman France today is really encouraging.

And of course Jack Daniel's has been a very leading performer in that marketplace now for some time. And actually we continue to have very high hopes for it. So for this year, you will probably hear more about the margin as it makes its way in as well as some of the cost but the margin impact is significant for us this year as it makes its way into its first full year.

And then from there on going out I mean really it becomes about implementing in the marketplace innovating doing the right Jack Daniel's Tennessee Honey entering that market which I think is very -- it’s off to a great start. And so all of that becomes the important exercise and we'll keep you posted, I know there is a lot of interest on what might happen in France and Europe more broadly. But as a counter to the sort of these trading patterns that we talked about in the UK and Germany I am glad you brought it up because France continues to do very well for Brown-Forman.

Robert Ottenstein - ISI Group

Can you give us any sense of the volume acceleration that you are seeing now?

Paul Varga

Actually it wasn’t planned I think as some massive acceleration to help either pay for it or to recoup it, it was really more probably more capturing the margin than it is in any volume acceleration. And I know one of the things that group is doing out they’ve got their own company is looking to what possibilities might exist for some forms of acceleration or innovation in that marketplace now that we have more direct influence over the marketplace. And so those tend to come in the forms of three and five year plans.

Robert Ottenstein - ISI Group

Terrific. And then my last question, I was very interested to hear your comments on flavors, and I know you guys plan long term. Just so we have an idea of kind of how to ballpark these things, 10 years out, I mean do you imagine -- I mean how many flavors do you think that the Jack Daniel's brand could carry long term?

Paul Varga

As expressed to give you an example of a flavor being kind of the Tennessee Honey or Tennessee Fire.

Robert Ottenstein - ISI Group

Exactly. I mean obviously, and I don't think anybody expects anything like vodka. Are we talking about two or three, a dozen? I mean just kind of sort of round numbers, how should we think about what you see the long-term potential for different types of flavors?

Paul Varga

I don’t see it. I mean it’s hard to crystal ball, it’s really difficult. I mean at this point I would find it hard to think a number that you’re just using a number like 10. At least from my limited visibility looking into the future, something about that that makes me feel real good that the two and I would say which is one with still studying and looking at the second one at a preliminary stage feels about right for us right now.

I think what you want to do though is for Jack Daniel's and there have been times where Jack Daniel's may lead the consumer marketplace. It’s harder for the trademark like this, you want to be innovative and all that but we also are simultaneously quite protective. And so if the consumer marketplace evolves to the point where actually to be competitive it required the trademark to do more than couple, that would create a different opportunity than I would say exist today. I mean we’ve seen right now in terms of flavor it’s really been in any kind of scale really just two flavors for whiskey I mean it doesn’t mean there won’t be broad acceptance of other forms because there is no way six or seven years ago I would have been forecasting two pretty significant very scaled volume metric markets associated with honey-flavored whiskey and cinnamon-flavored whiskey. We wouldn’t have been able to anticipate it. But some of you will have to see where the consumer market place evolves to but our current plans would forecast a rapid expansion of flavors.

I will give you another example Jane referenced of a different type of flavor that we might forecast is we’ve been slowly releasing this into very limited distribution in United States for last couple of years, has been the possibilities of going into rye whiskey which has been a very hot category in the United States off late and we’ve been making rye whiskey and then releasing limited amounts of it, it is various stages of aging to whet the appetite of the market place. So that’s a different flavored whiskey if not necessarily I would call the liqueur type of flavored whiskey that you are referring to. So I think that kind of innovation could be important as well.

And in the other extremely attractive potentially area of innovation around the Jack Daniel's trademark beyond flavors and RTGs is really the higher run of the ultra-premium ladder which the Jack Daniel’s Gold No. 27 and Jack Daniel’s Sinatra would represent the latest very limited distribution and very limited offerings associated with those.

But really important not only the marketing but if in fact we get those two any sort of size they could become important to particular markets or to because they’re very efficient in their production and profit.

So the ultra-premium and alongside the flavored end and I had continued to think that at least to-date has been a unique opportunity for trademarks like Jack Daniel’s that exist in American whiskey, we haven’t seen that potential to go both upward on the pricing ladder and across on flavor and in many other categories.

Robert Ottenstein - ISI Group

That's very helpful. So I take it from your comments that you don't see maple as having a lot of potential?

Paul Varga

There is not any big -- I know there is a couple of expressions in maple in the market and they’ve kind of gone up and down a little bit so has nothing has really been developed there. Of course that is a very natural flavor in a lot of whiskies anyway so I don’t know how different as a taste that is for attracting new consumers. And one of the test we consider when we look at these is does it bring new people who otherwise appreciate either maybe let’s say appreciate the trademark but don’t like all the offerings provided by the trademarks that might enjoy it in a different format. So the ability of it to bring in new consumers, it has been my very distant observation that particularly with the example of maple that there were high levels of cannibalization in some instances that was at least anecdotally or qualitatively what I was observing I can’t put any facts behind that but it would make sense because it’s a much more slight variation on the whiskies and something more with the flavor itself is quite different as it is with the honey and the cinnamon.

Jay Koval

Thanks Paul. And thanks to all of you for joining us today for Brown-Forman’s first quarter earnings call. Please feel free to reach at us if you have any additional questions and have a great Labor Day weekend.

Operator

Thank you. That concludes today’s Brown-Forman’s first quarter fiscal 2015 earnings conference call. You may now disconnect.

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