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Central European Distribution (NASDAQ:CEDC)

Q2 2011 Earnings Call

August 04, 2011 8:30 am ET

Executives

William Carey - Chairman, Chief Executive Officer and President

James Archbold - Vice President, Director of Investor Relations and Secretary

Christopher Biedermann - Chief Financial Officer, Principal Accounting Officer and Vice President

Analysts

Brady Martin - Citigroup Inc

Matthew Webb - JP Morgan Chase & Co

Edward Mundy - Nomura Securities Co. Ltd.

Alex Howson - Jefferies & Company, Inc.

Andrzej Knigawka - ING Groep N.V.

Daniel Wakerly - Morgan Stanley

Operator

Good day, everyone, and welcome to the CEDC Second Quarter 2011 Earnings Conference Call. Just a reminder, today's call is being recorded. For opening remarks and introductions, I would like to turn the call over to Director of Investor Relations, Mr. James Archbold. Please go ahead, sir.

James Archbold

Thank you. I'd like to welcome everyone today to CEDC's Second Quarter 2011 Earnings Conference Call. Joining me this morning are William Carey, our President, CEO, and Chairman; and Chris Biedermann, our Chief Financial Officer.

Please note that the content of this call contains time-sensitive information that is accurate only as of the date of the live broadcast, August 4, 2011. The online replay will be available shortly after the conclusion of this call. You may also view a copy of today's press release and a presentation for today's call on our website.

Please also note that statements made during this call, other than those related to historical information, constitute forward-looking statements within the meaning of the Private Securities Litigation and Reform Act of 1995. Without limiting the foregoing discussions, the forecasts, estimates, targets, schedules, plans, beliefs, expectations and the like are intended to identify forward-looking statements.

These forward-looking statements, which are based on management's current beliefs and assumptions and current information known to management, involve known and unknown risks and uncertainties and other factors that may cause actual results, performance or achievements to differ materially from any future results, performance or achievements expressed or implied by forward-looking statements.

Additional information concerning factors that could cause actual results to differ materially from those forward-looking statements are contained in the press release issued today and our Form 10-Q to be filed with the Securities and Exchange Commission. CEDC is under no duty and undertakes no obligation to update any forward-looking statements made in this call.

With that, I'll turn the call over to William Carey, our President and Chief Executive Officer. Bill?

William Carey

Thank you, Jim. Welcome, everyone, to our Q2 conference call. I'll start off with -- we'll discuss a bit about Poland, Q2 highlights, about launching. We'll start with a formal presentation that was put out a few hours ago. [indiscernible], go over some of the financial information and come back into how we look at the second half guidance, and update for the second half for the year 2011.

First off on Page 3, we touch on the highlights of Poland for the quarter. We had a solid quarter volume growth of 18% compared to quarter 2 of 2010, and that's a double-digit volume growth of all of our channels, which is the domestic vodka, imports and exports. The overall market continues to be subdued with the parts around 5.5%, 6% on negative in the second quarter, very similar to the first quarter. And pretty much, we're expecting the rest of the year to be at a similar trend.

We're seeing continued success of our new launch of Biala that we did in fourth quarter last year, our Zubrowka, which we're seeing our market share in June of 6.4% and that's continued to grow, continues to be very well received in the marketplace. At the same time, our market share has remained pretty steady at around 24%. But we anticipate -- with further volume gains for the remainder of the year, we still anticipate that 24% to be pushing up to 25%, 26% towards the end of the year.

We also launched in June a new flavored product that we've been talking about, Jezowka, and the initial sales results are extremely well and we're seeing very positive results in July. So hopefully, we'll see continued solid performance on this brand, which is a very profitable sector and growing sectors of flavored market in Poland, which represents low 20s in terms of overall market share in the vodka market.

Beer pricing has remained fairly consistent with first quarter, certainly higher than last year levels because, really, the increase started last August, September and continued with a further increase beginning of January and since have been rather stable, but of course, on a comparison to date, it has been negative.

We're also seeing that in our client mix improvement, we're seeing that the wholesaler channel, which is our most profitable channel, is continuing to take share in our overall business, which you see -- which we'll see continuing probably for, at least for the next 12 months in terms of a better client mix.

And this has really highlighted the fact that we've done a lot of hard work since before the distribution business in August last year to really enhance our overall route to market by selling our wholesale business, and that's something we work very hard on. And as you know, from an SG&A side, we also doubled the size of sales force last fall to make sure that we can put this route to market in place and really drive a higher top line. And that's exactly what we're seeing so far through the first 6 months of this year.

Please turn to Page 4. Of course, the results were also helped by the Easter impact, that Easter fell into Q2 this year as last year fell into Q1. And if you look at the one negative coming out of the numbers, certainly, is a value impact of minus 20%, but this isn't really a true comparison because there was -- there are some benefits coming from the Q2 last year in terms of spinning off of the distribution business. There were some benefits on discounts that we utilized in the second quarter as we spun off this business a year ago, which are not really -- a true comparable.

If you look at the third quarter, you'll see a minus 5% to 7%, which is more in line with the market and the fourth quarter because we don't have the overinvestment at Biala. You will see 11% to 12% increase actually in volume to value -- of value to volume. So we really start to see improvement moving into Q3 and a much bigger improvement actually moving to a very positive double-digit value to volume increase in Q4.

Also, Biala, well, we haven't recognized also that Biala has cannibalized more than we estimated the Bols and Soplica, which has led to a negative mix for us in terms of margins because Biala is taking a bit of share from our Bols and Soplica brand, which are priced at a higher price point. But this was also offset a bit by a better client mix, as I was explaining before. So overall, I think as we -- well, I'll discuss that later in the presentation on the second half highlights.

If we turn to Russia, Page 5. If we look at -- first off, as you know, we worked very hard in getting our licenses renewed during the second quarter. That's a big challenge for our team. There was a lot of -- there's been a lot of disruption in the marketplace regarding production wholesale licensing, which we'll get into, but we are happy to announce that all of our licenses were successfully renewed. And during the quarter, what we saw, not so much caused from our side but from our client base, our wholesale relicensing process, which was a bigger disruption than certainly estimated.

Currently today, we have 25 wholesalers out of our 140, that's down from 27 last week, that are currently having difficulty with licensing. We estimate probably we'll move 10 to 15 of those and probably another 10 will get relicensed. We've also signed over the last 2 months 13 new distributors to offset some of that volume and to make sure we keep our route to market. And at the same time, over the next 2 to 3 months, we anticipate finding 15 to 20 new sub distributors in the marketplace to also increase our coverage in terms of benefiting our route to market. So I think certainly, as we move forward, this issue is subsiding. And as we look to continue to sign some new distributors or some of the old distributors to get their licenses, this issue really, as we've said in our press release, really, post here in August, really becomes a nonissue.

We've also done a lot of work in beefing up our key management team in Russia. We hired a new operations, a new COO. He came from Unimilk, where he was COO of Unimilk, and it's a very complex company in the dairy business where they have 26 different production plants and certainly knows how to work in a very difficult production and overall trading environment.

In terms of the Commercial Director, also, we -- our Commercial Director comes from the beer side of the market, which has a deeper route to market than we do, and he was formerly the National Sales Director over at Heineken. So I think we have a very top-notch new commercial team that's now been with us for about a month, so we anticipate good things from them coming over the next 6 to 12 months in terms of strengthening our overall commercial strategy in Russia.

The overall Russian market, similar to Poland, has a continued negative trend, around 4% to 5%, during the second quarter but similar trends as the first quarter in terms of consumption. And again, we anticipate probably that continuing through the remainder of the year.

We have a strong export growth, primarily to Ukraine. As you know, we opened a new office there a year ago and we're doing extremely well. We're up to 6% market share already in Ukraine. Unfortunately, this does come at lower margins than our domestic Russian sales, but we'll do over 1.3 million cases within our really first year there, a full year operating in Ukraine. So overall, when I see the price, Ukrainian government just put up a minimum price, 30% increase in minimum price -- shelf price, so that's also very good news for us because we are priced at the sub premium price point, so this brings up the -- even the economy price point not far away from we even trade today. So that probably will give us an opportunity to increase some prices here in the next 6 months in Ukraine to increase our profitability there.

Beer prices remained consistent, very similar to Poland in terms of the different increases we had last fall and in early January has remained at that level. But of course, on a comparison basis, it is impacting, as you can see, the second quarter performance versus last year. And we also launched our new mid-priced economy vodka during late in the quarter.

And turning to the next page. If you look at the overall impact on our vodka markets, certainly would jump out, it's a minus 26%, domestic volume. But you also -- have to understand also that on a value standpoint, this is only negative 12% on a -- on our vodka business, so a 14% improvement in value over volume, which had an impact over recent price increases we've taken over the last 12 months.

And the biggest offset of this has really been that also, we had certain distributors who had not got their license. We will want to make sure we've reduced our bad debt to keep our bad debt at low levels. And of course, we had to take product back from some of these wholesalers because of the fact that we owe this money and we won in the equipment trade, so we wanted to take product back, which we took product back to help offset, which also had an impact on our negative second quarter numbers.

And then, really, that -- it did impact -- the number was over 40 distributors that are not -- that not have licenses is now, like I said, down to 25. So it really did have a pretty big problem for our [ph] route to market during the quarter, which I said was now sort of subsiding. This was offset a bit by higher exports, RTDs. As you can see, the continued premiumization that we've done in the RTD business continues to drive nice profitability. And at the same time, the Whitehall Group and all of these other companies offset the -- some of the negativity on the overall domestic vodka situation.

And as highlighted here, the Whitehall Group has put in -- as apples-to-apples comparison for you, has put in quarter 2 for both years, even though we just consolidated Whitehall this year to give better understanding of the business.

I'll now turn it over to Chris Biedermann, who'll take you through some of the financials for Q2.

Christopher Biedermann

Thanks, Bill. Please flip over to Page 8. We will take a look at our Q2 consolidated P&L. Looking at top line, the top line sales grew by about $36.4 million. This increase was driven by the consolidation of Whitehall, it was about $32 million. FX, as we had a stronger zloty and ruble last year of about $15 million. Sales force of our export, RTD and imports, as Bill said earlier, part of it obviously was partially offset by the lower domestic sales volumes in Russia, again as Bill described earlier.

Looking at gross profit margins here at 40% for 2011 compared to 50% in the prior year. Reduction is due to the year-on-year higher spirit costs, which is included in our budgets for the year, the increased marketing investments we described earlier, the consolidation of Whitehall as well as the sales mix in Russia. Domestic vodka has a higher margin than the exports, imports and RTDs as well as the value drivers that Bill early described out of Poland. However, the margins in Q2 are up versus the 38% in Q1 of 2011. We expect the improvement to continue throughout the year.

Overall, operating expenses are up from $43 million to $64 million, given -- primarily due to the Whitehall consolidation of around $10 million, FX contributed $6 million and higher marketing investments around $2 million. Looking forward into Q3, we would expect to see a similar operating expense levels, albeit with higher, particularly higher sales levels.

To conclude, in interest expense, interest and other non-operating expenses are up, and this is primarily due to the higher financing costs related to a stronger euro as well as some of the cost that's factoring the June into and I'll describe when we turn to our cash flow.

Looking through over to Page 9 and looking at sales by segment, again, we see Poland up, [indiscernible] by strong currency. Russian sales were up due to Whitehall consolidation, the currency and the higher export fees, in fact, as I mentioned earlier, and again offset partially by the lower domestic vodka sales, which is all primarily a factor of the relicensing processes as Bill talked to earlier.

If you look at operating profit, when we flip over to Page 10, we have a walk there to get us from the 2010 Q2 to 2011. And on Page 10 highlights some of the larger items. As we could on the graph, the main drivers impacting operating profit for the period was the net volume impact, which is probably a result of the domestic vodka sales in Russia of $10.9 million, also higher spirit costs, which was included in our budget and guidance of $6 million as well as the higher marketing investment and mix impact of $9.8 million through 3 main components.

Looking out over to Page 11 and looking at our cash flow. Carrying net operating cash flow for the 6 months of 2011 was $43 million as compared to $42 million for the prior year, and it factored in the coupon payment we made Q2 of $40 million. Now the impact of factoring accounts receivables that's earlier without reports had offset the negative impact of lower earnings with a slow cash flow generation in Russia.

In terms of investing activities, these are primary the Q1 events that we discussed in the last call in the buyout of the remaining stage in the Whitehall Group as well as the sale of the Moët Hennessy joint venture. In the finance activities, you'll see us include the cash out as a repayment of certain banks that's in the Whitehall Group as well as the $45 million term repayment we made in Poland which was done in 2011.

Looking forward, we expect operating cash flow for the second half of the year basically to remain at a similar level, so this level to remain the same or somewhat higher in end the of the year with our big cashes that are coming in Q1 2012 as is our usual cash flow cycle. But we expect to be able to utilize cash that are generated earlier in 2012 to begin to pay down some of our debt and eventually leading to refinancing our convertible notes due in 2013.

On Page 12, I think this is the relatively self-explanatory, it's a simple clear reconciliation of our TTM EBITDA. Again, as we've noted earlier, this number is expected to normalize as we cycle off a better anticipated Q3 and Q4 2011.

I'll now turn it back to Bill to discuss our outlook for the remainder of the year.

William Carey

Thank you, Chris. On Page 14, let's look at the Polish outlook for the second half of the year. First, also note which is important. Many of you want to know, well, how is it going, how would you like trading and we're happy to announce that July is up 59% in volume. So again -- that we're coming off not only a decent second quarter, July was up 59%. So again, we continued strong performance in Poland, and we're expecting, like I said, that the biggest difference for us is getting the value -- getting the value back in the business. And that will be -- like I said, it will still be negative in Q3 versus volume of negative 5% to 6%. But of course, it will be a very strong number but slightly lower than volume. And the second quarter -- fourth quarter, you will see 11% to 12% higher value than volume, as we cycle through sort of a noncomparable quarter with the Biala relaunch that we did last year.

We also have the new product development of our completed [ph] relaunch in July and a new Jezowka flavor, which will be coming out in the fourth quarter. We're also expecting to accelerate. Even though we had good export numbers in the first half, we're expecting to accelerate in the second half mainly due to not only a new export structure that we put in place but also numerous new contracts that have recently been signed to accelerate our export business.

Our vodka market, like I said before, has continued to -- estimated to continue in the same trends of a negative 5% to 6%. We're anticipating the imports, continued strong growth. I think the Polish ranking of whisky is now ranked, I think, in the top 25 largest whisky markets in the world and with a growth rate of over 20%, that we're anticipating that -- the International Scotch Whisky Association is projecting that Poland will be in the top 20 largest whisky countries by next year, so -- and we are certainly enjoying that with our large brown spirit portfolio as well.

Our COGS are expected to remain fairly stable, maybe just an upside with a good harvest. So far, the weather's been quite decent in Poland, so we're expecting a good harvest and maybe there's an upside in the fourth quarter here with a good harvest. And also with goods, you'll see that our key competitor, which has been very aggressive on pricing over the last few years to drive market share to spirits, which as many of you know, the -- with the sale of IPO and sales, strategic sales, they have now moved to raising prices and they have announced July 1 and September 1 two different price increases of a combined of around 5%, and we will monitor the pricing to make sure that the effective price does change in the market. And if it does change, we will certainly adjust accordingly. But we need to make sure that the effective price is changed in the marketplace, not just on the price list.

If we turn our attention to Russia for the second half of the year, that -- there are numerous events, as highlighted in the first paragraph there, that will show significant pick up in volume and value. New product launches. Green Mark is relaunching this month in August. [indiscernible], which will probably come out September. We have the wholesale license issued to subside and we also have price increases coming through in the third quarter. But overall, we're anticipating in the third quarter roughly around 12% to 14% top line growth in volume and closer to 32% in value.

And if you recall, the first quarter, we had 10% increased value versus volume. Second quarter, as I mentioned, we had roughly 16% and now we're looking at 18% in the third quarter. And fourth quarter, we're looking at around 7% volume pick up and 41%, around 40% in value. And that's mainly coming from the seasonality, the domestic having more impact over export as well as the price increases taking in the third quarter.

We also launched our new vodka [ph] brand in July, which is above plan. We're doing very well with this in the first month of sales, so we're quite encouraged by the rotation of the product, just not what we're loading in but the rotation and also with the new mainstream brand coming out in September, October.

Certainly, negative news that we see in the Russian market is the new government regulation change that is coming to effect on August 1. We're not impacted until September 1 because we have inventory and stock, but what's -- what it's -- it's moving the excise payment from spirit producers to vodka producers, and the main aim there is to clean up the overall transparency of this business and moving the whole excise tax to the vodka producer. And unfortunately, this comes with a higher price at certain benefits that were previously enjoyed by the excise producers are not existing anymore, and we are paying the full tax without any benefit. That's hitting about 35% increase on spirit, which will be hitting us about $11 million from September to December this year on the increase in spirit pricing.

Again, even though there's been some heat across Russia, it hasn't been the intense heat as we saw last year on a continual basis. But there's some cooling and some heat waves. There is various fires at Eastern Russia but nothing that's to mitigate in the key cities, that where we're operating in as we have last year. And so far, the harvest is expecting to have a good harvest. So hopefully, as we move into the last part of the year, hopefully, we could see some better pricing with a good harvest. But right now, it's too early to say.

We're currently filing new contracts as well on whisky, [indiscernible] and other products to start in the second half of 2011 is also a good news for us as we continue to expand into a wider import portfolio. There's nothing new on the vodka business. In terms of the market, as I said before, we continue to see the market at the same type of trends that we've seen in the first half of the year, around the 3% to 5% decline. We expect to see continued strong growth coming out of our export business. And also, we are progressing with the closure of our plant that we announced, which is going ahead in August 2011 this month. And we'll be saving about $6 million to $7 million on a full year basis and a couple of million dollars for the remainder of this year.

Also, if you see our RTD business, we're also continued to see strong trends of premiumization. There's been a lot of competition in the RTD business that have gone out of the marketplace due to the relicensing, so I think we're in a pretty good shape here at even looking at some contract production in the marketplace to further improve our performance there.

Also, if we look at the overall producers, in terms of -- we're also seeing in the marketplace that there's continue to struggle a lot of small producers as much as we anticipated, so hopefully, this also that this -- the small players will eventually work its way out of the marketplace and in the market we'll further consolidate faster within Russia.

So in light of these various outlook for Poland and Russia, as well as this new spirit pricing that we mentioned and due to some of these mix concerns that we had with higher exports coming out in the first half of the year versus our domestic as well as this wholesaling issue that is now subsiding, we are reducing our guidance from EPS of $1.05 to $1.25 to $0.80, $0.80 to $1. And our net sales, we're going down slightly from $880 million to $1.80 billion to a slightly lower midpoint of $900 million to $1.50 billion.

And again, the key factors that are driving these changes, like I said, is roughly the $11 million on this higher spirit cost as well as the related cost of the excise guarantee, which now they require 6 months guarantee instead of 1 month; impact of mix mainly in Poland and Russia; a bit of volume; higher interest expense from the factory, as Chris mentioned; and offset by a slightly positive impact from exchange rates versus our previous budgets.

So thank you, and I'll now open the call to questions. Thank you.

Question-and-Answer Session

Operator

[Operator Instructions] We'll take our first question from Daniel Wakerly with Morgan Stanley.

Daniel Wakerly - Morgan Stanley

My first question is on the $11 million. Is that purely to do with the 35% increase? Or are you also -- you'd -- should we also expect $11 million out into the spirit cost and also the guarantee cost?

William Carey

Yes, around RUB 95 per liter later of pure spirit. And then you also have around $1 million guarantee cost, slightly under $1 million.

Daniel Wakerly - Morgan Stanley

Okay. So it's mostly to do with the spirit. And why has it gone up 35%? Is that -- can you give us any more insight into why it goes up so much?

William Carey

Yes, I think there are just certain, I think, benefits that the previous -- because we were paying 70% and the spirit producers were paying 30%, and out of that 30%, I think they had certain benefits that they were enjoying, which now go away from us paying 100%.

Daniel Wakerly - Morgan Stanley

Okay. And you're talking about $11 million in relation to...

William Carey

That's just not for us, that's for the whole market. Yes, [indiscernible].

Daniel Wakerly - Morgan Stanley

That's the whole market, everyone, yes, understood. I mean, you're talking about $11 million to December. I mean, what's the impact for the full year 2012? Do I need to take like $25 million of my number? Or do you think you'll get pricing to offset? Should I think about it? Because I assume they have the full year effect.

William Carey

I think as we -- we have worked hard to try to negotiate lower prices certainly. We have not been able to negotiate much lower than what they've put out. We'll continue to work on that diligently. Also, as we typically -- that we would expect, like I said, it is expecting a pretty good harvest this year. So I do expect prices do -- would come down. So for us, it's a bit early to say what the impact next year would be until we get into the last part; November, December, until we see what the really effective -- of how these different factors I mentioned will play out.

Daniel Wakerly - Morgan Stanley

Okay, understood. On the -- on your Russia volumes, I mean, can you talk a bit more about why your wholesale hasn't had such issues? We know, as you pointed out in the last call, that synergy does more product distribution, but still I think half of the sales are to wholesalers, and they had 25% volume growth in 2Q. So as you just -- you've been unlucky with your wholesalers? Or what's really explaining the difference? It just seems such a big difference.

William Carey

Well, we've taken a very prudent view to make sure that we -- that we are exposed a little [indiscernible] maybe you're too conservative, but that's the view we took and we're seeing very little bad debt and we had a -- we had over 40 distributors out of our 140 that were having getting difficulty getting a license. And it's -- like I said, it's now down to 25, it's -- and we have signed 13 new ones, and we are signing 15 to 20 additional sub distributors to make sure that we have a more rounded view of the overall marketplace and more distributors. But I can't really comment really more than that.

Daniel Wakerly - Morgan Stanley

Okay. I mean, how much of the...

William Carey

And we're also opening a new trade-out in Siberia in August to also take more direct control of our distribution up in a very difficult area to work with good distributors up in Siberia. But since we have a factory there, we're opening a trade house there this month to also take more direct sales in this area as well.

Daniel Wakerly - Morgan Stanley

Okay. Is it possible to give us a feel for how you would split that 26% in terms of the overall destock effect that you've guided to for the last 6 months, the thing that we're expecting? And then how much of the minus 26% is because there's been these wholesalers which have unexpectedly not been able to get their licenses in time?

William Carey

Yes, I don't have that number on hand. You can probably check with Chris or maybe he can do some work on trying to break that out for you later.

Daniel Wakerly - Morgan Stanley

Okay. And my last one is I was just understanding the shape of the rest of the year. You're guiding -- your guidance implies you should do $1.13 of EPS in the last 2 quarters. I mean, how much -- can you give any color on the phasing of the EPS?

William Carey

Yes. I mean, I think outlined for you some of the volume and value for the different quarters in Russia and Poland in terms of volume and value there. So I think that you can probably -- since we don't give quarterly numbers, I think you can back into a rough estimate from some of that numbers I gave you on Poland or Russia of volume and value for the 2 quarters.

Operator

Next we'll hear from Brady Martin with Citi.

Brady Martin - Citigroup Inc

My question is really on the -- first question's on the performance on a quarterly basis in Russia. I mean, if you look at the last set of numbers, it looks like in Q1, there is clearly a destocking effect to the market, and the market was down some 24%, 26% in shipped volumes but actual consumption only down about 4%. In Q1, you had a better-than-the-market performance. In Q2, however, we're offset showing the number is only down at around 3% and you had an extremely weak quarter. Can you explain why your weakness is really Q2 versus Q1 when the market weakness is really Q1? I'm trying to have a -- having difficulty understanding.

William Carey

I think the sell-in data -- I think the overall, really, consumption was probably quite similar both quarters, as I talked about. In terms of sell-in data, I think -- I can't really state why other producers might have folded less in first quarter than second quarter. And I guess it also depends on the timing in terms of the overall of timing of the relicensing. Some people went through first quarter, second quarter. For us, we had a bigger issue with the second quarter with distributors as most of our distributors were -- not most, a lot of our distributors were having more difficulty in the second half than -- or in the second quarter than the first quarter. But certainly, this is not only -- back to the last question that this is not only coming from this route to market disruption in the marketplace, also that we're not performing commercially as we need to be. And that's clear as why we're hiring a Commercial Director, why we're strengthening our management team in terms of improving our overall commercial performance. So we are not where we need to be commercially.

Brady Martin - Citigroup Inc

But on the -- I mean, on the retail level in terms of market share on the shelves, I mean, what's your impression of how well you did? And is Q2 much worse than Q1 on the retail level, not the shift level?

William Carey

Yes, I wouldn't take anything materially of worth. No, it might be slightly negative to Q1, but I wouldn't take anything material there, no.

Brady Martin - Citigroup Inc

Okay. On your expectation, I think you said a recovery in volume in Q3 in Russia. I mean, there's a few factors that could drive that restocking, unique product launches and...

William Carey

Also, it's easier comps. Last year, we had a -- in July, we are up 23% in July in our vodka business.

Brady Martin - Citigroup Inc

So but...

William Carey

Because -- but it was a weak comp. Yes, it was an easy comp for July a year ago because you had this heat effect, a bigger heat effect than you had this year, so it's a bit easier comp.

Brady Martin - Citigroup Inc

Right. But my question really is even if we get this volume recovery, I mean, do you expect that this is going to be a profitable recovery? I mean, When I look at what's happening in Poland really for the last 3 quarters, you have -- it seem looking by the numbers, you have some volume recovery, but there's no actual value recovery. I mean, in Q2, you actually...

William Carey

Right, but as I explained that you -- that you're moving to a better situation in the third quarter in Poland with a negative 5% to 7% versus volume and you're moving to a plus 11%, 12% in the fourth quarter value versus volume, so yes, it will be -- because also, we don't have the high investment costs we had last year in fourth quarter in Poland versus this year with the Biala situation so it is an easier comp as well. And in Russia, that we were -- that we are getting better value, at 10% better value in volume in the first quarter, 16% in the second quarter, yes, the volume numbers were negative but the value is, like I said, 10% to 16% increase. In the third quarter, as I mentioned, you're going from 14% in volume. We had 23% in July, so we certainly think 14% is doable and 32% in value, which is 18% better. And the fourth quarter, because you got price increases coming through also in the third quarter and because again you have an easier comp in the fourth quarter because you don't have all this extra mess we had with our excise situation last year, we're looking at 7% growth because again it's a bit easier comp because you don't have this disruption at a 41% -- around 40% value, which is a 33% increase of volume to value. So for us, it's...

Brady Martin - Citigroup Inc

So that's the profitability side...

William Carey

That we do see this value coming out of the -- profitable value coming out of this -- our business in Russia.

Brady Martin - Citigroup Inc

Okay, that's fair. I mean, I think I'll follow-up on detail, so just one final question on the -- if you can explain what happened in -- I mean, in OpEx. I mean, I clearly understand you're doing a lot more trade marketing which is affecting your sales growth. But it looks like OpEx, operating costs were up 50% year-on-year, and part of that will be currency, but can you just give us more color exactly what's driving this [indiscernible]?

Christopher Biedermann

Yes. I think I missed some of the main points there in terms of OpEx. As I talked about with the slide earlier, again, we had the Whitehall and then our tenured FX is about $6 million, I believe. We do have the initial investment in marketing. We did have $3 million in Poles above -- in prior year, basically a reallocation of cost or the production business to our distribution business, which was kind of a -- more of a one-off impact in 2010. And then we [indiscernible] in that account for more of the movement. And then you had the sustaining cutoff, we have a bit of inflation in Russia particularly in transport costs this year, so where we had [indiscernible] is eating up a bit in terms of inflationary pressures in Russia on transport.

Operator

Next we'll hear from Alex Howson with Jefferies.

Alex Howson - Jefferies & Company, Inc.

Just going back to volumes in Russia and the wholesale dynamic, did you guys have a feel for what sort of market share you now have at this point, whether you guys actually lost some? And also, just in terms of how volumes are going to bounce in the second half. Do you guys have an idea of it, just sort of operating leverage you got through putting some into margins?

William Carey

Yes. I think probably in the first half of the year, we probably lost probably 0.3% share, and that will more than recover with our growth here in the third or fourth quarter. And in terms of the operating leverage, again, I mean, I think I laid out that your -- with our new guidance out, you're probably working at around 19% roughly EBITDA margins for the overall group. So certainly, as I said on the last call last quarter, you get a big -- and you really leverage the model tremendously when you're getting a higher volume for really a fixed cost infrastructure, relatively fixed cost infrastructure, and that's certainly highlighting always in the fourth quarter. Of course, last year, we didn't see it because of the company events that happened. But generally, if you look back at the history of our company, the fourth quarter is always showing a tremendous leverage effect in terms of increasing the gross margins and the operating margins because you're getting a lot more volume through a relatively fixed cost infrastructure.

Alex Howson - Jefferies & Company, Inc.

Okay. And in terms of the issue effect in Poland and Russia, have you quantified that? Or do you have an idea exactly what level that impacted results?

William Carey

No, no. Russia, we don't have the effect. It was just -- it's more of a Polish issue. No, I mean, certainly, there was a benefit. But when I look at the July numbers even for Poland, we're up 58% in July. So yes, it was an Easter effect, but I think overall that we're just performing better here across, like I said, all of our import, exports and domestic vodka. Yes, it has come as highlighted in the last question at lower value, but for us, it was in getting back at the market share in a very competitive environment and now we're going to start to see some value improvements moving out third and fourth quarter. But we need to turn around the overall volume situation, and now we can also start working on the value improvements. And like I said -- and if our key competitor is increasing the pricing here, July and September, and if it actually sticks and have actually hold it, then we'll also be able to increase our pricing here at some point later in the year, which is potentially some upside. But for 2 years, our key competitor did not increase their prices effectively, and we were sort of stuck in a difficult model in terms of not being able to also increase. But now the situation is improving in Poland, and hopefully, we will start to recognize better value coming out of our business.

Alex Howson - Jefferies & Company, Inc.

Okay. And just in terms of the factoring agreement, maybe I'm kind of misunderstanding the situation a little bit. But in the Q1 presentation, you mentioned sort of that it reduces your overall cost of financing. And here, you've said that it's -- you've kind of raised guidance on the basis that you've got a higher interest expense in the factoring, so just -- if you could just clear it up for me, then that'd be helpful.

Christopher Biedermann

Well, I think we're just using the factoring at a greater level than we originally anticipated in the beginning of the year. The percentages -- the percentage is lower than traditional bank credit. So again, as we fill some of the financing, the traditional bank credit would've been even higher.

Alex Howson - Jefferies & Company, Inc.

Okay, sure. And what was the limit manufacturing?

Christopher Biedermann

The limit is roughly of $100 million, roughly.

Operator

Next we'll hear from Matthew Webb with JPMorgan.

Matthew Webb - JP Morgan Chase & Co

3 questions, please. The first one, I wonder if I could just take us back to the impact of this change in the way that excise dues is changed in Russia and the 2012 impact. I mean, I truly appreciate that there will be a big offset, well, hopefully will be a big offset from a better harvest this year. But just trying to isolate the impact of the change to the excise due to regulation. I mean, is there any reason to think that there will be anything other than roughly sort of 3x each, what will the 2011 impact is? And I know Q4 was a bigger quarter, but its $11 million [indiscernible].

William Carey

Like I said, the increase is roughly around RUB 95 per 100% of pure spirit per liter. So you can do your own and it's a status quo, it is what it is. But like I said, we do anticipate probably to negotiate a better situation in the next number of months and also hopefully a better harvest. But it's not -- its -- our current increase is RUB 95 per 100% per liter.

Matthew Webb - JP Morgan Chase & Co

Oh, so just to clarify, when you say to negotiate a better situation, do you mean in terms of the price that you are charging or the situation...

William Carey

Buying from because we buy from different manufacturers, so we will continue very hard to negotiate, probably get lower prices than what we're currently being quoted.

Matthew Webb - JP Morgan Chase & Co

Got it, and that's really clear. And then the second question is just this sort of high-60s percentage growth number from Poland in July. That sounds they're a fantastic figure. I was just wondering whether you could talk a little bit more about what's driving that and all of you would be throwing a lot of rates versus the year but to what extent that kind of gives you confidence...

William Carey

Yes, it's not -- we're not going to have 50% for the remainder of the year clearly. I think some of it had to do with that -- as you know, we sold our business last year and probably there were some -- yes, we probably want to take -- we sold our distribution business last August, so we probably took the benefit of probably the stock levels there, that Eurocash keeps current fairly similar stock levels but not as high, probably that was in June. But generally, we're seeing across-the-board from discounters to key account to wholesalers, not so much of Eurocash but the rest of channels, we're doing all quite well. And what we've lost in Eurocash has been more than made up and some in the overall wholesale channel because, like I said, we work very hard to improve that channel as it is our most profitable channel. And you'll start seeing that continue to -- not continue, but to benefit value here as we move forward in terms of better value versus volume.

Matthew Webb - JP Morgan Chase & Co

Got it, okay. And then the final question, and I'm sorry to ask you to repeat this, but you guys gave really useful guidance on what you're expecting in the second half in Russia, I think broken out into those Q3 and Q4 and probably more value, but I didn't get it all down. Could you bear to just repeat that for me, please?

William Carey

Yes. I was talking more in our vodka business, which is we're looking third quarter at around 13%, 14% on top line and around 31%, 32% on the -- on value, so it's about 18% increase versus -- like I said, it was 10% increase on value volume in the first quarter, 16%, I believe, in the second and 18% in the third. And fourth quarter, because we got price increases and a better domestic mix versus export mix, that we're looking at 7% volume trends and 41% -- 40%, 41% on value.

Operator

Next we'll hear from our Andrzej Knigawka with ING.

Andrzej Knigawka - ING Groep N.V.

Yes, we have some quick questions. One is on refinancing cost convertible. Then so I think Chris mentioned that on the call, you're looking to do it, if I missed it, correct me, sometime 2012. Are you looking to do it in the first half, second half? And would you be well refinancing into another convertible bond or just throwing bonds, that thing?

Christopher Biedermann

No. Andy, I can't comment in specifics. We have 20 months to go before the current maturity on the convertible notes. We obviously monitor market conditions and looking at all options that probably do it. I can't give anything more specific than that. Our liquidity situation at present is fine. We have adequate cash in the balance sheet and with any short-term obligations, so we -- it's really a matter of monitoring the market mix is the best decision at the time. And again, [indiscernible] as typical Q1, we do expect the cash coming in from the strong Q4, so we obviously would like to have some of that cash in our pocket to do well before we can go out and make any final move.

Andrzej Knigawka - ING Groep N.V.

Okay, that's fair, I understood. And the second question I have is your value of trademarks and goodwill on the balance sheet going into rest of the year. How confident are you that you could keep your balance sheet good will value where it is today, given that Russia was contracting volumes? And obviously, your profits are probably likely to weigh or roughly increase in the second half in Russia versus second half 2010 but they're still with a good year [indiscernible]. How confident are you, you could keep it up on valuation?

Christopher Biedermann

Andrzej, obviously, we feel our current values that are on the balance sheet, its proper valuation, but we continue to monitor the situation and continue to monitor going forward. As I said, we feel that the balances are fairly valued.

Operator

And we do have time for one more question. We'll hear from Edward Mundy with Nomura.

Edward Mundy - Nomura Securities Co. Ltd.

[Technical Difficulty]

William Carey

Looks like Ed Mundy got cut off. So if there's no further questions, that concludes our call.

Operator

I do apologize. Mr. Mundy, your line is open at this time.

Edward Mundy - Nomura Securities Co. Ltd.

A couple of questions from this end. Really just to maybe the point that the price mix in Russia, the 30% up you're seeing, and what do you expect in Q4? And are you able to split between price and mix because I know you got some new product development as well?

William Carey

Well, really, that the -- it's a 40% volume increase and 32% value, which is 18%, which is really not far off the 16% that we had in the second quarter. Yes, it was 26% down on -- I'm sorry, I think it was 12% in the second or 14% in the second quarter, that it's not far off of the second quarter and we have taken some price increases here in August. So you do have some benefit of a pricing in there, and that's really one of the main reason it's heading up to 18%, plus the fact that domestic is doing better than export in terms of -- in relation to Q2, so -- and that will be further enhanced as you move into Q4. We had a full quarter of price increase, and the domestic obviously, and the seasonality is much bigger so it's bigger weight effect than your overall export business.

Edward Mundy - Nomura Securities Co. Ltd.

Okay. Second, in Russia, you're indicating that there is new import contracts signed from the imported spirits. Are you able to potentially outline it for us...

William Carey

Yes, I can't. From a competitive nature, that will -- I'm sure we'll be announcing it in the next while, but from a competitive standpoint, until they're signed, I wouldn't like to mention their names.

Edward Mundy - Nomura Securities Co. Ltd.

Understood. And just finally, on -- well, I'm just referring back to the original March 2011 presentation. You very kindly gave that walk-through between the 2010 actual and the former guidance. Within that, you indicated a $33 million benefit from the Whitehall consolidation. Are you able to perhaps update us on where we are for the full year on that?

William Carey

Yes. I think with our guidance reduction, I think we would take probably a few million off of that number.

Operator

At this time, I'd like to turn things over to Mr. James Archbold for any additional or closing remarks.

James Archbold

Thank you. We'd like to thank everyone for joining us today, and we look forward to speaking with you again next quarter. Thank you.

William Carey

Thank you. Thank you, everyone.

Operator

And that does conclude today's teleconference. We thank you for your participation, and you may now disconnect.

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