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PepsiCo Inc. (NYSE:PEP)

Q4 2007 Earnings Call

February 7, 2008, 11:00 am ET

Executives

Jane Nielsen - VP, IR

Indra Nooyi - Chairman and CEO

Mike White - Vice Chairman and CEO of PepsiCo International

Richard Goodman - CFO

John Compton - CEO of PepsiCo America's Food

Massimo d’Amore - CEO of PepsiCo America's Beverages

Analysts

Joe Herrick - Gutterman Research

Christine Farkas - Merrill Lynch

Carlos Laboy - Credit Suisse

Marc Greenberg - Deutsche Bank

Judy Hong - Goldman Sachs

Bill Pecoriello - Morgan Stanley

Lauren Torres - HSBC

Bill Leach - Neuberger Berman

Brian Spillane - Banc of America Securities

Justin Hott - Bear Stearns

Kaumil Gajrawala - UBS

Eric Katzman - Deutsche Bank

Operator

Good morning and welcome to PepsiCo's, fourth quarter 2007 Earnings Call. (Operator Instructions). Today's call is being recorded and will be archived for 14 days.

It is now my pleasure to introduce Ms. Jane Nielsen, Vice President of Investor Relations. Ms. Nielsen, you may begin.

Jane Nielsen

Thank you, operator, and good morning everyone. Thanks to all of you for joining us. Today's webcast includes a slide presentation that can be accessed at our pepsico.com website.

Before we begin, please take note of our cautionary statement. This conference call includes forward-looking statements based on our current expectations and projections about future events. Our actual results could differ materially from those anticipated in such forward-looking statements. But we undertake no obligation to update any such statements. Please see our filings with the Securities and Exchange Commission including our Annual Report on Form 10-K for a discussion of specific risks that may affect our performance.

You should refer to the investors section of PepsiCo's website under the heading "PepsiCo Financial Press Releases" to find disclosures and reconciliations of non-GAAP financial measures that may be used by management when discussing PepsiCo's financial results with investors and analysts.

This morning's prepared remarks will be made by Indra Nooyi, PepsiCo's Chairman and CEO; Mike White, PepsiCo's Vice Chairman and CEO of PepsiCo International; John Compton, CEO of PepsiCo America's Food; Massimo d’Amore, CEO of PepsiCo America's Beverages; and Richard Goodman, PepsiCo's CFO.

Today we will review our 2007 results in the context of our old structure and 2008 outlook in the context of our new structure. After our prepared remarks we will leave 30 minutes for questions and answers.

I would like to call your attention to two items that affect the comparability of the numbers we reported this morning. We had restructuring charges in the quarter totaling $0.04 per share or $102 million pretax related to previously announced restructuring actions and division reorganization expenses.

Our reported full year 2007 results also include the benefit of $129 million or $0.08 per share related to the settlement of certain foreign tax matters, $115 million in Q3 and the remainder in Q4. Reported results for 2006 included $0.34 per share net benefit of a tax settlement and restructuring charges. Excluding these items earnings per share in 2006 and 2007 were $3 and $3.38 respectively.

On today's call, we'll refer to results excluding the items I just mentioned as core results which we believe are more indicative of our ongoing performance. The net is that our core EPS grew 8% for Q4 and 13% for full year 2007.

And with that, I'll turn the call over to Indra.

Indra Nooyi

Thanks, Jane and good morning everyone. We truly appreciate the opportunity to discuss PepsiCo's fourth quarter and full year results and our outlook for 2008. As you read in our press release this morning, PepsiCo had a strong finish to a very strong year. I'm proud of the outstanding work our associates around the world have done to advance our performance of PEP's journey in all of the dimensions. Whether it be delivering outstanding business performance; building platforms for growth through innovation, acquisitions and joint ventures; and advancing our sustainability agenda for our products on environment and our people.

I will share my thoughts on our performance in 2007 and our outlook for 2008. Mike, John, Massimo and Richard will then take you through the division and corporate performance and our 2008 guidance in more detail.

In 2007 our categories continued to demonstrate vibrancy and resiliency around the globe. Internationally our markets are growing and are particularly strong in developing and emerging markets where we gained shares. In the US, both savory snacks and liquid refreshment beverages posted category growth with relatively stable trends throughout the year. We gained savory snack share for the quarter and the year, and in CSDs, we gained share in the fourth quarter and had a positive share swing to our principal competitor for the year.

That marketplace strength shows in our full year results. Our teams delivered excellent top and bottom line performance with 12% net revenue, 10% core division operating profit growth and 13% core EPS growth. In total we offset inflation with pricing and productivity while maintaining volume momentum and our team's leveraged strong developing market macroeconomics. We reinvested 4X upside to drive growth in our operating division and to support IT transformation and corporate R&D initiatives.

The benefits of both the geographic and product diversity in our portfolio is evident in the consistency of our overall algorithms this past year. For the fourth quarter, strong volume growth, net pricing and effective cost management across the entire value chain drove 11% core division operating profit growth. We also successfully executed our tuck-in acquisition strategy to compliment our organic growth. These acquisitions help to scale our portfolio, expand our global footprint and extend our business into adjacent categories.

In Q4, we closed on the acquisition of Lucky snacks in Brazil. We also advanced our penetration in adjacent categories with the announced acquisition of Penelopa, Bulgaria's leading nuts and seeds business and Frito-Lays joint venture with Sabra in fresh dips and spreads. In 2007 we spent a total of $1.3 billion in M&A transactions and every transaction will enhance our future growth and create value for our shareholders.

And now more than ever, we have the right organization with a talented management team to take PepsiCo into the future. Our three divisions, PepsiCo International, PepsiCo Americas Food and PepsiCo Americas Beverages; build a more global perspective, allow for improved best practice sharing and provides greater development of opportunities of our management talent. You will hear about some of these benefits as Mike, John and Massimo discuss our division outlook.

We've also added capability in the critical area of nutrition R&D. Dr. Mehmood Khan has recently joined PepsiCo as our Chief Scientific Officer. Dr. Khan comes to us from Takeda Pharmaceutical where he headed up global R&D. An MD with specialties in internal medicine and endocrinology, he served at the Mayo Clinic as the Director of Diabetes, Endocrinology and the Nutrition Clinical Trial Unit. Dr. Khan will guide PepsiCo’s long-term research strategy; provide leadership of next generation technologies, food safety, nutritional standards and quality assurance.

Turning now to 2008, I’m confident in our ability to continue our progress on our performance of PEP's journey, delivering both sustainability goals and our financial goals. Next year or I should say this year 2008, we expect to deliver performance consistent with our long-term target. We expect volume growth of 3% to 5% mid to high single-digit revenue growth and at least 10% core EPS growth. I’m confident but recognize the challenges ahead.

In our Q3 call I spoke to you about inflation and economic uncertainty and both are gone up now. The world economies outside the emerging countries are expected to slow in 2008. However, as I’ve indicated all categories of comfort food and refreshing beverages have generally proved pretty resilient in past economic downturns. And I’m encouraged by our continued strength in share gains in our important and emerging developing markets.

It is clear, that inflation and commodity costs has accelerated particularly as it relates to grains and energy. We are estimating that in 2008 the commodity cost inflation across PepsiCo will average about six percentage points. To address this issue we're utilizing all of the multiple tools at our disposal. From a productivity standpoint we are accelerating effort to cross the entire business system. Product formulations, ingredients sourcing trade efficiencies, manufacturing, go-to-market and G&A.

In addition, we will be looking to effective pricing both through innovative new products as well through judicious combination of mix management, product [data's] and absolute pricing. That said we do not expect our brands relative value proposition to change. Inflation is a reality for all our competitors and for private label as well and we are seeing them raise prices across all our categories.

As always, our decisions have guided the consumer, customer and competitive environments in each market. Underlying these efforts are the important structure advantage that we have across the world. Our brands have highly loyal and engaged consumers. Our brands are affordable treats and healthy eats. Our innovation pipeline is robust. We have ubiquities availability through our powerful go-to-market systems and our global footprint is wider and stronger than ever before. And our key strategies which partially leverage our advantages and give us flexibility and resiliency remain unchanged.

We will continue to execute or tuck-in acquisition strategy, invest a new platforms for growth, transform our IT capabilities and build and retain our talents. And as a team we remain committed to managing for the long term, executing with excellence and consistently delivering our annual targets.

In total then I want to reiterate how pleased I am with our performance this year and the confidence I have in my leadership team and all our associates around the world.

Now let me turn the call over to Mike White, who'll talk about PepsiCo International. Mike?

Mike White

Thanks Indra, and good morning everyone. Today I'll first focus on our overall PI results for the full year 2007, cover a few details on our fourth quarter results and then I'll provide a 2008 outlook for the new PI, which is comprised as you know of the United Kingdom, Europe, Asia, the Middle East and Africa.

The PepsiCo International team had another very strong year and I'm really proud of the way they performed in 2007 on both the top line and our bottom line. For 2007 in total, our snacks volumes were very strong, up 9% for the full year and we gained one full share point of market share in our top 27 markets. Our beverage volume was also strong, up 8%. And totally emerging and developing markets had robust double-digit growth and we gained share there in both our snacks and beverages businesses.

Innovation continued to be a key driver of growth behind new snack forms and flavors, expansion of Pepsi Max and 7-Up H2O into new geographies, as well as strong growth from Lipton and Tropicana in particular. In each of our markets, we continually work to maintain the local cost structure with targeted initiatives to drive productivity across the entire supply chain.

To build out our infrastructure, we need to sustain our growth and we continued our IT transformation journey with successful and self-funded SAP Go-Live in Mexico, in China and Holland, and we're enhancing the global communications backbone for PI as well.

As Indra pointed out, we were successful on the M&A front as well. We acquired the leading salty snacks company in New Zealand, Bluebird. We acquired terrific snacks business called Lucky snacks in Brazil. And in partnership with PepsiAmericas, our anchor bottler, we acquired the Sandora juice business in the Ukraine, the leading juice business in that country. We also expanded our partnerships with Unilever and Starbucks. And we increased our equity positions in both our Northern Latin America Snacks business as well as several of our beverage operations in China.

As you saw in the press release, our core operating profits grew 18% for the full year. Core operating margins were down about 50 basis points. Let me point out that drop relates entirely to the impact of consolidations of already existing joint ventures. When we changed our equity interest, we added significant amounts of revenues, virtually 100% of the revenue of those businesses, but only our proportionate share of the profits, in some cases 50% or less.

These consolidations reduced our margins by 60 basis points. The impact of all of the other acquisitions and divestitures compressed margins by an additional 20 basis points. So if you take all these factors together, PI would be right on consistent with the margin targets that I have discussed with you in the past.

Focusing now on our fourth quarter results. Core operating profits in the quarter as you saw in the release were up 12% in spite of significant benefits we saw from foreign exchange in the quarter. Let me point out two primary factors at play. First, keep in mind we were lapping gains on the sale of a business in the United Kingdom last year, which contributed about four points of profit growth in 2006.

The second factor is that we, as we pointed out in the release took advantage of our 4X upsides and PepsiCo's strong overall performance to consciously invest back in our businesses, both to enhance our competitive position as well as to set us up for good growth in 2008. The majority of those investments were targeted to emerging markets, as well as, to implement our SAP platform internationally combined they lowered our operating profit by about 10 percentage points.

Let me dig a little deeper into the drivers of our fourth quarter growth. Our volume trends remain very solid, with snacks volume up 8% and beverage volume up 9%. And consistent with the strong growth we saw throughout the year our emerging and developing markets again posted double-digit growth in both snacks and beverages and we gained share on those markets in the quarter.

Our core brands like Lay's and Doritos continued their strong growth and we saw the continued strength of our innovation as we close the year. Additionally, we’re encouraged by the improved top and bottom line trends at Walkers whereas Sabritas performance was very solid and consistent with our prior quarters.

We've managed significant commodity cost headwinds all year and the fourth quarter was no exception. To address this we executed just under four points of net effective pricing and with similar increases being executed in the categories we compete in the relative value of our brands is unchanged or in some cases improved.

Our teams remain alert to the affordability trade offs consumers may begin to make given the Euros, Pounds, or Rubbles they’ve got in their pockets. With adjust product weight-outs, mix, and price pack management strategies to provide value and affordability for consumers around the world.

That net we continue to deliver underlying top and bottom line results inline with our long-term algorithm while investing for the future. As I look ahead, there are tremendous opportunities for growth for the new PI, that is the UK, Europe, Asia, Middle East, Africa and we are well position to capture those opportunities in some of the fastest growing economies of the world. We have 86% of the world's population and yet we capture only $2 in revenue per capita in those markets, clearly we still have tremendous room to grow.

Now as you'd expect from PepsiCo, we have in place the right teams, the right strategies and the right measures to navigate through the input cost headwinds we expect and we will deliver for PepsiCo in 2008.

In our Beverage business we're executing price pack management to offer entry point packages, promotional value and channel specific offerings. And in Snacks we're managing our weight-out strategy and in same cases list pricing increases and trade productivity to offset inflation. And of course we are driving hard against productivity in all of our businesses. I feel great about our innovation pipeline for 2008, its rich and it's targeted at our critical innovation platforms for growth.

In Snacks we focused on three fronts, first we'll continue to have more flavor extensions building local relevance and adding food authenticity, for instance Lay's [Shashlik] in Russia a new sausage flavor or Kurkure Xtreme in India offering intense flavors for teens.

Second we'll continue to advance our better for you platforms through continued support of the successful baked launches that we had in both the UK and Benelux last year and extend that platform with baked bread snacks. These bread snacks offer the health and wellness appeal of baked in combination with great snacks like flavorings.

In Turkey, we're launching a product called A la Turca, Office 3 to 5 to be used in the office in the afternoon a crusty bag and bread slice with local flavors like yogurt and garlic. And across Europe a similar type product name Sun Bites will be our snackable bread offering also with flavors tailored to local taste.

In addition in our better-for-you arena we're going to be strengthening our multi grain offering with our Sun Bites product in the UK which has a third of the daily amount of fiber that you need, and Grain Waves in Australia.

Finally premium innovation in potato chips offers flavor indulgence and intensity with terrific products like Red Rock Deli potato chips in Australia. And our premium delights flavor, Smoky Cheese in Taiwan offers a flavor combination resulting from both marinating and seasoning the chip with a rich smoke cheese flavor.

And beyond our core adjacent categories with extensions like Duyvis pure and natural nuts will enhance our premium line in the Netherlands. And all of these products are at a premium price.

In Beverages we'll continue our regional expansion of both Diet Pepsi, Pepsi Max and 7-Up H2O in a number of countries. In the UK we are launching Pepsi Raw, a premium carbonated soft drink with natural flavorings and colorings sweetened with real cane sugar. Pepsi Raw will be packaged in glass bottles and initially targeted in the on-premise channel.

In our non-carbonated beverages, we continue to drive against our new Tropicana juice drink platform, which we recently launched in both China and India. And in the United Kingdom, we're extending our successful Tropicana Brand with a terrific Tropicana Smoothies MFC product, a premium better-for-you fruit smoothie.

And finally on non-carbonated beverages, we'll be significantly expanding our ready-to-drink tea business through the integration of the Lipton markets that we recently added as we expanded our joint venture, primarily in Western Europe.

Overall, a strong innovation pipeline that drives relevance, expands our better-for-you and good-for-you offerings and extends into premium core and adjacent categories. And we'll also continue to build out our infrastructure to gain both manufacturing and sourcing efficiencies. So taken in total, we expect to be a strong driver of growth and profit for PepsiCo in 2008.

Let me now turn the call over to John Compton. John?

John Compton

Well thank you Mike, and good morning everyone. This morning I'd like to review the Frito-Lay North America and Quaker Foods North America businesses for 2007 and then give you a brief outlook on the new PepsiCo Americas Foods. First, let me share my thoughts and a few highlights for what I think was a terrific year for Frito-Lay North America.

The full year Frito-Lay North America growth algorithm was very consistent with our expectations. 3% volume growth, 7% revenue growth and 7% core operating profit growth with some margin improvement. Importantly, we invested in double-digit A&M growth over the course of the year to support both our core brands as well as our emerging health and wellness platforms. Our volume growth was built on strong growth in our core salty snack business with Doritos, dips and multi-packs as key drivers and growth in our emerging health and wellness brands like Sun Chips, Quaker snacks and Stacy's.

Importantly, in measured channels we grew market share both in volume and value in the growing savory snack category and private label remained below a 12% volume share. I would also like to highlight that measured channels represent less than half of category volume and its growth is much faster in the unmeasured channels where Frito-Lay also gained share.

Net, net 2007 was a very strong year for Frito-Lay. Our marketing teams connected with our consumers in meaningful ways and led the industry with award winning advertising and consumer engagement programs. Our sales organization delivered service and execution excellence, while our supply chain teams achieved a full point of manufacturing productivity. In short, a very strong balanced year for Frito-Lay North America and I could not be more pleased

Now specifically in the fourth quarter Frito-Lay again delivered strong balance top and bottom line performance. Volume growth was broad based across our portfolio, we’re truing to 3% growth in Q4 and revenues grew a strong 8%. That top line momentum combined with manufacturing productivity allowed Frito-Lay to again invest in A&M and handle input cost increases all while driving a healthy 7% core operating profit growth.

Once again Fritos position in the marketplace continued to strength in the quarter gaining 0.5 a point of volume share, and 4/10 of a point of dollar share in the savory snacks category. Growth in core salty brands and Quaker snacks was balanced across the portfolio. Doritos volume continued to growth even as we begin to lap last year’s "Crash the Super Bowl" excitement and the successful Blazin' Buffalo Ranch introduction.

In this years "Crash the Super Bowl II" 300,000 Dorito fans voted online for the original music video that inspired enough for them be featured on a 60 second Super Bowl spot. We are confident that this kind of engagement drives growth and loyalty to the Doritos brand. Importantly, we also aired another consumer generated 30 second ad called Mouse Trap. Mouse Trap, finished number four in the USA Today Ad Meter. And like last year’s top performing ad the production cost was zero. All of this reflects our staying connected to the Doritos consumer.

We are also pleased with the sequential improvement in Lay's volume was down about 1% in the quarter but our kettle capacity was coming online and began to have a positive impact. Cheetos grew with a launch of two intense flavors Chile Lemon and Xxtra Flamin' Hot Cheddar Jalapeno.

In the Quaker snacks line growth was led by innovative products such Granola Bites and Sweet & Salty Crunch Granola bars and our Quaker Rice snacks business grew double-digits. To cover accelerated commodity cost especially in grains, cooking oil and fuel we realized about four points of rate increases. We did this using a combination of weight-outs and everyday price increases, but overall than excellent results for Frito-Lay both for the year and for the quarter.

Turning now to our Quaker Foods business, we finished the year with solid top line momentum in the fourth quarter as oatmeal and ready-to-eat cereals help drive a 3% total volume growth for Quaker Foods. This coupled with effective net pricing led to 8% revenue growth. Now higher input costs, SAP investments and marketing investments; resulted in operating profit growth of 3%.

As I look forward to 2008 we will leverage a combination of innovation such as our new Simple Harvest heart cereals and Simple Harvest bars and productivity to drive balance growth in the business.

Now shifting focus to the future and to the PepsiCo America's Foods we are very excited about the synergies and about the opportunities for best practice sharing. One such example is a truck loading system that Sabritas developed and rolled out across Mexico and we're already testing that now in New York and the results are very encouraging.

Additionally by more fully leveraging power of one across Sabritas, Gamesa and Frito-Lay North America we will extend our leadership with a fast growing Hispanic market. And as Mike outlined, we have made key strategic acquisitions in key South American markets, which should strengthen our position in the marketplace.

Let me take you through a few of the highlights for 2008, at Frito-Lay the innovation will again expand better for you choices. The coming months, we will see the launch of Lays Oven-Crisp, Cheetos Tracks and a lower sodium version of Frito-Lays Ruffles and Tostitos, a line that we call, pinch of salt.

We will also continue our expansion into adjacent categories with the launch of our True North Nut platform. True North puts a unique twist on net offerings by offering both nut-clusters, nut-chips and exciting flavors to nuts. We will add more flavors to Doritos like spicy sweet chilly, which promises to build on the success of last year's Doritos line extensions. I'm confident that these new campaigns and offerings will continue to drive consistent growth at Frito-Lay.

Turning to our Latin American Snack business which encompasses Sabritas, Gamesa and our South American food businesses, the innovation focus is also better for you. Our upcoming initiatives will expand our big platform with the Baked Cheetos introduction in several markets. Baked Twistos bread snacks in Mexico and Baked Ruffles in Brazil.

At Gamesa, we are excited about the innovation in our Quaker portfolio. In Q1, we are launching two better for you Quaker products, Quaker Granola Pops and Quaker [Stella] bars. We will also be running our first ever Quaker promotion in Mexico this quarter which should accelerate our launches in the brand overall. In South America, we are extending Doritos beyond Corn using locally relevant foods as the base. Brazil is a great example where one of our upcoming line extension is at black bean based Doritos.

Now, I don't want to ignore the obvious headwind that our food business has faced in 2008, namely, the ongoing increases in key commodity costs. And to offset these increases, we will use all the tools that we have at our disposal. Those include mixed management, visual pricing, weight outs and increased productivity.

The combination of weight outs in the modest visual pricing will likely moderate volume growth by about a point, although our unit growth will continue to be strong. At the same time I want to assure you that we are committed to maintaining a strong relative value position within the categories and to continuing to gain market share.

As in the past, all of our snack and food businesses in the Americas will continue their relentless pursuit of productivity in manufacturing, selling, delivering and product sourcing. So in summary, I am proud of the 2007 results, confident that we have the tools and the people in place to continue to deliver excellent operating results and I am proud to lead the new PAS.

Let me now turn the call over to Massimo who will cover our beverage business in the Americas. Massimo?

Massimo D'Amore

Thank you John. I'll first cover the results of our North American beverage business for 2007 and then turn to the 2008 outlook for our new PepsiCo Americas beverage division including Mexico and Latin America. For 2007, PBNA delivered solid 7% revenue and core operating profit growth and at the same time, reloaded the innovation pipeline going into 2008.

Across measured and unmeasured channels our estimates show LRB category growth of about a point for 2007. Non-measured channels drove the majority of the category growth and we continue to gain share in this important channels. And we did this in the context of enhancing margins of Tropicana despite the dramatic orange inflation and dealing with CSD pricing above historical levels as a result of commodity pressures.

In CSDs we gained volume share versus our principal competitor and private label continued to lose ground. Our ready-to-drink tea business grew 25% for the year and gained substantial market share. And Gatorade improved in the fourth quarter which I will cover a bit later.

Let me turn to our quarter four results. As you saw we posted a strong finish to the year particularly in terms of revenue and profits. PepsiCo beverage North America volume for the quarter grew 1% and within that, CSDs declined 3%, but we gained CSD share and so growth for trademark Dew in our successful new Diet Pepsi Max.

Our non-cash portfolio grew high single-digits and I’m pleased to report that the positive Gatorade volume growth momentum we began to see in August of last year continued through Q4 resulting in about 18% shipment growth for the trademark and high single-digit growth excluding the impact of G2 in November.

Trade and bottle enthusiasm of the G2 launch resulted in strong initial orders. And looking at Gatorade off take, we saw all channels scans for the quarter at about 5% lapping 5% last year and that includes very little from G2. Our enhanced water brands grew about 30%. In total our hydration portfolio delivered double-digit growth for the quarter.

Rounding out our non-carbs, our Lipton ready-to-drink tea and our energy drinks brands also grew double-digits. Lipton teas white tea innovation coupled with distribution gains helped fuel growth behind Lipton's Ice Tea. And the AMP brand drove energy growth in the quarter. The growth in finished good non-carbs and relatively soft overlaps from prior year resulted in 15% revenue growth and 19% total profit growth for the quarter.

Now looking ahead we're very excited about our breakthrough marketing, robust innovation pipeline and sponsorship events that together will bring news to our beverage portfolios through the year. For the new PAB, I will share my thoughts on the US and then turn to the Latin American outlook. As you saw last weekend on the Super Bowl, we set out to put our brands where they belong at the core of popular culture and we leverage the most interactive and wire communication to do it.

Our pre-game efforts generated outstanding awareness in top value and our associated PR has generated $6 million in comparable print and ad value already. Pepsi staff will be our biggest promotion ever and it is targeted to drive frequency and loyalty with our core consumers. The more Pepsi products you buy the more stuff you can collect. Justin Timberlake's spot on the Super Bowl launched our promotion, which resulted in over 1.3 million online video views and over 1 million Pepsi calls already entered online.

Also on the Pepsi trademark our Nod spot communicated invigorating benefits of Diet Pepsi Max while putting a smile on consumer's faces. We have a strong multi-brand strategy in hydration, meeting key consumer needs states with a portfolio targeted offerings across our brands; Gatorade, G2, Propel, SoBe Life Water and Aquafina and its extensions. Our hydration portfolio had some great exposure at the Super Bowl and that visibility will continue throughout the year.

Moving to specifics. I will first address Life Water and then Gatorade and G2. Earlier in the year, we reformulated SoBe Life Water by reducing calories by 20% while replacing fructose with natural sucrose. Adding specific infusion of anti-oxidant vitamin and healthy herbal ingredients and offering five new well liked flavors. Clearly, SoBe Life Water is a brand ready to be put on the map. We did it by adding Lee the Lizard, Naomi Campbell and the worlds most popular song and then the ad meter's top ranking for a new or re-launched brand.

Importantly, on Monday following the Super Bowl, the Life Water commercial that was the most watched video on YouTube with over 400,000 hits driving very strong brand awareness that in turn will accelerate off take at point-of-sale, where our bottlers have achieved unprecedented levels of displays.

The Gatorade trade mark will continue to benefit from exciting news. Fueling the G2 rollout was a media campaign that kicked off with the eye catching teasers prior to Super Bowl and then broke fully on the Super Bowl with the ad featuring Derek Jeter that provided a clear message on off the field hydration. You will see G2 and Gatorade excitement in the store as we leverage incremental (inaudible) placements and point-of-sale materials that will drive awareness in time.

We are also looking forward to the launch of Tiger, in March. A new Gatorade formulation with three flavors that Gatorade Sports Science Institute developed in conjunction with specific hydration work with Tiger Woods. The packaging will also be new and distinctive with an improved grip for better portability.

The energy category is dynamic and growing and we are making AMP of lead brand. Our new AMP line extensions elevate traction and relaunch our leading energy innovation with unique formulations that add functional benefits to energy drinks. For example, AMP Elevate adds antioxidants and LTN for mental focus and clarity, all with a new mix better flavor. These brands better target specific energy needs across our broader consumer base.

AMP has teamed up NASCAR legend Dale Earnhardt, Jr., who will drive the number 88 AMP Energy/National Guard Chevrolets at the Daytona 500 season opening in Florida. Along with this great visibility and presence across the AMP brand, this sponsorship offers a tremendous opportunity to bring excitement into the store. From local race oriented promotion to in-store displays, centered on Dale and the number 8 AMP energy car.

Finally next week we are starting shipments of Tropicana Pure Valencia, the most premium juice Tropicana has ever offered, crafted from the top 3% of our harvest, the selected Valencia Orange juice. This premium product answers consumers growing demand and sets a new standard for premium juice. Pure Valencia is complimented by a line of four other premium 100% pure juice flavors made from consumer preferred fruits. With four great flavors the lineup would include both multi-serve and single-serve packages. In total we had a great lineup of juice for our US market.

Turning now to Latin America, one of our main tasks on the beverage side is the expansion of a very successful H2O brand beyond Mexico, Brazil and Argentina to the rest of the region. In our larger markets we have H2O citrus flavor line extensions featuring natural citrus ingredients.

Natural ingredients will also play a role in innovation like Pepsi [Treat] in Brazil which incorporates only the natural calories from lemon juice. Another key focus is to continue to build our Gatorade brand in Latin America, which is the largest Gatorade market outside the US, and an important platform and scale driver for non-carbs in the region. We will strength Gatorade across the region with country specific introductions of packing innovation and even more new flavors.

In addition in our Lipton ready-to-drink tea business we have started to transfer the best practices from the US to Latin America and in 2008 we will be selling the brand in over 10 countries with high double-digit growth volume expectations.

Importantly, what we have shown you and discussed is just a beginning. Across PepsiCo America’s beverages we will continue to strengthen our core, nurture our new launches and develop game changing innovations. And I’m confident PAB with the energized growth in the 2008.

With that I will turn the call back to Mike.

Mike White

Thanks Massimo. One dimension I'd just like to briefly comment on is how John’s, Massimo’s and my teams are working together with our new sector structure to increase our scale leverage across all of our international businesses. To accomplish this we're going to continue to leverage our international commercial and operating supporting center to provide outstanding service and insure that we effectively share best practices across all of the three sectors. And I fully expect that this ongoing structure in going to facilitate further joint new product development as well as packaging initiatives as we look to the future.

In addition with my new responsibilities on procurement in IT, I am already finding opportunities to better leverage our global scale in those important areas as well. I'll look forward to sharing a few more thoughts on that when we get together at CAGNY.

With that let me turn it back to Richard Goodman. Richard?

Richard Goodman

Thanks Mike and good morning everyone. As we have indicated we ended the year with strong top line momentum, revenue was up 17% and core division operating profit was up 11% in the fourth quarter. We addressed rising commodity costs and made important investments in our operating division. As you saw from our release the overall division operating profit margin was down in the quarter, but almost all of that decline reflected the items at PI that Mike White talked about, namely the impact of consolidation, M&A and divestitures and marketplace investments.

In the interest of time, I won't repeat what we said in our press release this morning regarding drivers of below the line items. However I would like to point out that a 220 basis points higher comparable tax-rate in the quarter was the primary driver of EPS growing slower than operating profits. For the full year the comparable tax-rate was 27.6% in line with the comments I made during our third quarter call and about 40 basis points lower than prior year.

Moving on to cash flow, for the year, cash provided by operating activities grew 14% to $6.9 billion and capital spending was $2.4 billion with the net of almost $4.6 billion slightly better than our guidance. We returned $6.5 billion to shareholders, up 34% from 2006, $2.2 billion in the form of dividends and $4.3 billion in share repurchases. Acquisition spending totaled $1.3 billion, reflecting the strong deal pipeline we discussed at the start of the year.

Now let me turn to our 2008 outlook. For the year and consistent with our long-term guidance, we anticipate volume growth of 3% to 5%, mid-to-high single digit revenue growth, and EPS growth of at least $3.72 which represents 10% growth of our 2007 core EPS at $3.38.

Globally, we expect overall direct material inflation of about 6%. The big driver of cost increases versus the past couple of years is the grain complex, cooking oils, corn, oats and wheat. As my colleagues already indicated, we have a considerable number of tools to offset the impact of these cost increases while still maintaining momentum with our consumers. Taken as a whole, we remain confident that a combination of innovation, selective price increases and productivity will enable us to deliver solid division operating profit growth. And EPS growth, that's in line with our long-term guidance of at least 10% growth.

I do want to point out that we expect our EPS growth in the first half of the year to be lower than in the second half. As you will recall from last years presentation, we benefited early in 2007 from gains on mark-to-market commodity hedges and from relatively low quarterly tax rates as a result of the new FIN 48 tax accounting standards. These overlaps will particularly impact us in the first quarter of 2008.

In addition, early in the year we will have somewhat higher year-over-year commodity increases, then we were for the year as a whole. And not all of the offsetting pricing and productivity initiatives will have fully kicked in.

As you saw in our press release and in line with our trading plan we have started to sell Pepsi Americas shares. Our goal over the next few years is to bring down our ownership level to approximate 37% inline with the level at the time of the Whitman merger. We also expect to continue to sell shares over the coming years in PBG to a target ownership level of about 35%.

Finally our EPS guidance assumes a full year tax rate of about 27.5%, which is slightly below the comparable 2007 rates. Moving onto cash flow, we expect management operating cash flow after capital expenditures to be in line with earnings growth. Our capital investments remain focused on key growth opportunities as we continue to add capacity to meet demand particularly in our international market. And finally we expect share buy backs to total approximately $4.3 billion.

I would like to remind you that beginning Q1 2008, we will start to report six segments versus the four we had in 2007. In mid March we will provide the segment results for full year 2005 and 2006 and quarterly segment results for 2007. Well I'm sure all of you will appreciate the incremental disclosure our goal remains the same. Manage the business as a portfolio on a full year basis.

And now I'll hand it back to Indra.

Indra Nooyi

Thank you Richard. I know we've gone a bit longer on the script and we will allow a full half hour for questions and answers. But let me just sum up by saying that I am very pleased with our performance this year as I look at our portfolio of leading brands, powerful go-to-market systems, global footprints and most importantly the passion of our leaders and associates. I am confident in our ability to manage this business for the long term and continue to execute with excellence and deliver our annual targets.

With that we’ll now be glad to take your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question is from John Faucher with JP Morgan.

Joe Herrick - Gutterman Research

This is actually [Joe Herrick with Gutterman Research]. A couple of things Indra, congratulations, solid results again. Regarding each division can you maybe provide some color as what you guys are doing with lean manufacturing TPN and Six Sigma…?

Indra Nooyi

Joe, you're breaking up, can you slowdown and ask it?

Joe Herrick - Gutterman Research

Yeah, no problem. Regarding each of your divisions, can you provide some color as to how you're improving on lean manufacturing, TPN and Six Sigma and the throughput benefit you expect to see through your bottom line within each division?

Indra Nooyi

This is the level of detail we typically don't provide in this call. All that I tell is, if you look back historically, PepsiCo, in all of our operating businesses has been a productivity machine, we talk once every three or four years on the big productivity programs we are engaging on, especially in the large operating division like Frito-Lay. And a couple of years ago, when we were at our investor meeting in October of 2006, we talked again about the major productivity programs that we are undertaking. We are executing along those lines and that is as much detail as we are willing to provide. And Mike, you want to add something to that?

Mike White

Yeah, I guess, Joe I'd add that our businesses was as close to a lean manufacturing businesses as you ever find; if you go into a Frito-Lay plant, we compare to a Toyota plant, where they approach Lean manufacturing, I think you would find that in our velocities, we virtually we have almost negative working capital in the Frito-Lay business in the US. So, a lot of those tools we put in place a number of years ago because that's the nature of our flow business.

And we played around with Six Sigma in India in a couple of other markets, but to be honest with you, we continue to think that the best approach for us on productivity is leveraging the front line ideas through our global Star World program, which we do across both businesses, the US and International. And then continuing to look forward for opportunities to reengineer our distribution go-to-market systems and I think we feel very good about our productivity initiatives for 2008.

Joe Herrick - Gutterman Research

What metrics are you using to measure yourself, are you looking at RONA, OE; how you guys figuring out, how are we staying competitive within the marketplace?

Indra Nooyi

We look at return on invested capital. We have several productivity measures that we look at internally to the company and we track every one of them nicely for every one of our operating businesses and as Mike said, it's not just in manufacturing, we do it across our distribution system, all the way to our front line.

Joe Herrick - Gutterman Research

But on a certain division within Pepsi, there you have a concern regarding throughput.

Indra Nooyi

No, not really.

Joe Herrick - Gutterman Research

You're not meeting your demand, your capacity?

Indra Nooyi

No, we are sized exactly right and we handle our capacity expansion very, very carefully. We are not concerned about this issue at all.

Joe Herrick - Gutterman Research

Okay. And final question going forward for 2008, could be very challenging for all companies out there heavily involved in manufacturing, what can be your top three initiatives that you want to put in place to accelerate your continuous improvement processes to show to shareholders, whether I'm the right person for the job, we're doing well within all of our division and we're moving forward positively.

Indra Nooyi

We've been pretty clear. Let me be clear. The three top initiatives; one, drive international growth and we're doing a very, very good job of driving international growth because most of the fast growing economies are east of the Middle East and we are driving growth in all of those areas and in Latin America, priority one.

Priority two, make sure that our innovation pump is well fined and we have a great mix of innovation between premium innovation and innovation in all of our core line. And we spent considerable amounts of time in this call talking about the quality of our innovation.

Third, we often talked about making every penny a prisoner in PepsiCo. That's what's PepsiCo is known for. We have productivity programs across the company, which focus on productivity. So, those are the three priorities for the company and we are very comfortable, that's what the entire company is focused on and we are proud of our record in that.

Jane Nielsen

Joe, thank you so much. We'll need to move on to the next question.

Operator

Thank you. Your next question is from Christine Farkas with Merrill Lynch.

Christine Farkas - Merrill Lynch

Thank you very much. Good morning. I'm looking at your Frito-Lay track record. In the last couple of years you've managed to put up 3% volume growth and 3% to 4% in price mix and if I heard your comments correctly, you anticipated potential slowdown in volumes in '08 on the back of stronger rate. What's different this year, are we hitting a new point in terms of our affordability or absolute pricing?

Indra Nooyi

John?

John Compton

Christine, thanks you for the question. Clearly as Richard said, the overall commodity market is increasing and Frito-Lay, historically, has taken somewhere in the 3% to 4% range in rate and mix increases. And as we go into 2008, as the commodity prices are going up, we will take higher than the historical average in rate and mix increases, most of which, a large majority or through the combination of weight-outs and weight-outs, as you know, don't impact unit volume.

So, you will probably see our volume growth moderate a little bit from our historical averages, but our unit growth will remain strong and our net revenue should remain strong.

Christine Farkas - Merrill Lynch

Okay. On the back of that are you seeing any changes in overall channel mix? We heard some slowdown in beverages, in C-Stores. Are you seeing that in snacks?

John Compton

In Frito-Lay, we really haven't seen that yet. Our channel mix has remained pretty consistent. Our C-Store business exited the fourth quarter with good strength. So, so far, we've not seen that yet.

Christine Farkas - Merrill Lynch

Thanks a lot.

Operator

Thank you. Your next question is from Carlos Laboy with Credit Suisse.

Carlos Laboy - Credit Suisse

Yes, good morning. Thank you.

Indra Nooyi

Hi, Carlos.

Carlos Laboy - Credit Suisse

Mike, can you speak to what some of the biggest benefits might be from your SAP investments you mentioned in China, Holland, Mexico and how do these investments change the way you do business or the way you can do business going forward?

Mike White

Sure, Carlos. First of all, this is a long-term transformation initiative, even in China it's probably a several year initiative. So, let me be clear on that, and our biggest implementation so far by the way has been at Sabritas and Gamesa. So, you have to think of it as a five year transformation initiative. We obviously follow our CapEx process, where we have return on investment projected including savings and we are targeting right in line with that.

I'd say there are number of opportunities that we think overall in our IT agenda through the SAP initiative. First and foremost, it's going to help us be more effective in providing information on our business. Let's keep in mind, Carlos, with an International in particular, many of our businesses have exploded over the last four years and our IT infrastructure has not kept pace in providing the information that's needed for us to make the right trade off calls in the market place and I think it will help us there.

Second, it's also very clear that we have a huge legacy across all of PepsiCo, on multiple platforms, way more varieties than you would ideally want if you were starting with a clean sheet of paper. So, there is substantial IT productivity as we start to shut down old systems and simplify and streamline under the SAP platform. This is also going to generate significant savings for us as well.

So, as two of the top ones that I'd highlight, certainly it also provide us better productivity on our purchasing area, particularly areas like other goods and services that sometimes don't get the same focus that the core commodity purchases get.

Indra Nooyi

Carlos, let me just add to what Mike said. The two big benefits of SAP, whether it be International or North America, you get one version of all of the facts that allows you to look at the data in a more granular way in one place and you get increased transparency, you get real time data and enough granularity that you can make faster decisions at a point when working the right of the decimal point is as important as working the left side of the decimal point.

Carlos Laboy - Credit Suisse

Thank you.

Operator

Thank you. Your next question is from Marc Greenberg with Deutsche Bank.

Marc Greenberg - Deutsche Bank

Good morning.

Indra Nooyi

Good morning, Marc.

Mike White

Good morning, Marc.

Marc Greenberg – Deutsche Bank

I just wanted to talk a little more about your domestic snack and beverage businesses and I'm curious about consumer response to pricing in 2007. how that informed your decisions this year? And whether or not your models for price elasticity tell you anything about what happens in periods of greater economic weakness and if we start to see consumer really bear down, what kind of adjustments you can make to reflect that growing consumer weakness? Thanks.

Indra Nooyi

John, you want to talk about.

John Compton

Yes. Marc this is John, again in the fourth quarter you started see some of the pricing flowing through into the P&L. So, and we still delivered right at 3% volume growth in the quarter, it was broad based, it was across our core salty snack business as well as the higher price for pound health and wellness brands.

Today anyway, we haven't seen a slowdown in our volume growth, now as I said to Christine's question, we are going to take a little more pricing in 2008 that we took in 2007 and so one would expect, just based on the normal elasticity model, that the volume growth probably will mitigate slowdown just a little bit, but all of our competitors are also in the same boat that we're in, as well as all the broader savory macro snack categories that we compete against.

Some of which are not obvious confectionaries in businesses like that, where the rate increases that some people have announced are higher than what we have, will probably intend to take. So, I think market as we get into the course of the year, we’ll know more and obviously, we'll see some channel shifting potentially. We'll probably see some mix shifting within our own business, but I think we are on balance. We've got it fairly well planned out right now.

Indra Nooyi

Marc, if you could just sit back from this question, instead of getting specially into snacks and beverages, this level of price increase, especially that began sort of last year, is new uncharted territory because for many, many years both snacks and beverages were a deflationary environment.

So, we have to navigate through the things carefully, the only thing I'll tell you is, we have linked every level that we can deploy to handle revenue growth, volume growth and to get more productivity out of the system and because by and large we have DSD systems, we can actually implement changes quite rapidly, whether it would be snacking or beverages.

And because we have a great relationship with our bottlers, we can actually sell to the bottlers to implement the changes rapidly. But as John said, we are on uncharted territory, we have to wait and see how traffic patterns evolve in all the retail channels, but at this point we are not worried.

Marc Greenberg – Deutsche Bank

Thanks Indra and just as a quick follow-up to that, if the core commodity pressures that you indicated are driving inflation higher, are you seeing any significant difference in the level of those commodity increases domestically versus abroad?

Indra Nooyi

Many of these are global market Marc, but Richard do you want to take this?

Richard Goodman

Yeah, they really are global markets and we're seeing it primarily in vegetable oils and sort of the grain complex and those are being affected by all of the global macroeconomic trends right, and you've seen that from other food companies as well. So India and China's consumption is affecting the global market, the Biofuels, which is happening both in the United States and in some other countries, is affecting that.

The weather in Australia, drought in Australia affects global prices as well. So, it is across all of our businesses and both the commodity pressures and the pricing and the weight-outs that we're going to see are going to take place both domestically and internationally.

Marc Greenberg – Deutsche Bank

Thank you.

Operator

Thank you. Your next question is from Judy Hong with Goldman Sachs.

Judy Hong - Goldman Sachs

Hi everyone.

Indra Nooyi

Hi, Judy.

Judy Hong - Goldman Sachs

I'm Judy. Massimo, I was wondering if you can just speak to the disconnect that we've seen in terms of your very strong shipment growth in Gatorade versus weaker scanner data on that product. Although some of that is G2 impact, obviously the scanner data is limited from channel perspective. I'm just wondering if you can talk a little bit more about the disconnect there? And then maybe, even more broadly speaking just in terms of the health of the Gatorade, product itself with the G2 launch, if you think that this is a product that still has legs to grow in a high single-digit rate?

Indra Nooyi

Massimo?

Massimo d'Amore

Yes, hi Judy. So first of all, let me really start by saying that we feel that the Gatorade franchise is very strong. And if you think about it we are selling the best range of sport drinks across the category. Now, on specifically your question, first of all the shipments as we said, the 18% about half was G2 shipments. While on the scan number we quoted G2 was [already] present was all core Gatorade. And as you said it is important to remember that our measured channel is only half of the story and actually we are very pleased with what we see in the non-measured channel performance.

Now specifically on G2, remember that G2 is the biggest innovation we have done in Gatorade, probably since the launch of the brand. It is having a very strong start at the moment across all the channels and because it is really meeting an existing consumer need of providing hydration functionality at the lower calorie level. So we feel very positive about it and the early signs confirm our expectations.

Now don't forget that as of next month we also start shipping Tiger, which is going to be another very strong innovation and right at the core of the Gatorade functionality promise. So, all-in-all, we feel confident with our guidance of high single digits.

Indra Nooyi

Yeah, and Judy let me just add one other thing. We went through December shipping G2 so that we have distribution when the advertising breaks. It's only with Super Bowl that the advertising for G2 has broken, which means consumer awareness through mass media is just breaking. So we have to wait a couple of periods to see how Gatorade and G2 perform in terms of the overall franchise, but the early reads that we have look positive. So let's come back and talk sometime when we have our Q1 earnings call as to how we did on Gatorade and G2.

Judy Hong - Goldman Sachs

Okay, that's helpful and then just a clarification Richard on the commodity cost inflation of 6% in '08. That includes the orange prices declining year-over-year?

Richard Goodman

Yeah, that includes some benefit. It's about half a percentage point benefit from the benefit on oranges. But now that the answer I am giving is a global answer as well.

Judy Hong - Goldman Sachs

Okay, thank you.

Operator

Thank you. Your next question is from Bill Pecoriello with Morgan Stanley

Bill Pecoriello - Morgan Stanley

Good morning.

Indra Nooyi

Hi, Bill.

Bill Pecoriello - Morgan Stanley

Question on the productivity initiatives for ’08, you said you’re looking at everything up and down the value chain and you took some restructuring charges also here in the fourth quarter. So what kind of magnitude of productivity savings do you expect in ’08, or can you talk about in terms of the higher commodities that you are facing, versus what you expected; how much you are offsetting on the rate side versus the productivity side?

Indra Nooyi

Bill, we are not providing that level of granular detail, but just be assured that to offset this 6% inflation impact, we are balancing that inflation with pricing, productivity and mix management to deliver on our algorithm. So we are not providing you an individual detail in each of these buckets, but rest assured that productivity is a very major contributor to that formula.

Bill Pecoriello - Morgan Stanley

Great, and then I had question for Mike on the international reinvestment in the emerging markets in the quarter. If I can get any more color on the nature of those investments, where they were concentrated and you referred to helping to maintain the strong momentum in '08 in those markets?

Mike White

Sure, I would be happy to Bill. If you recall, we said there was about 10 points. That’s about $50 million, $10 million of it was SAP launches in China, in Holland and in Mexico. The other $40 million are the marketplace investments that we talked about, Bill. About 60% of those were beverages, about 40% were snacks. The snacks investments were kind of the normal thing that we do opportunistically when we have room, which is, for instance, racks. We increased a fair number of racks in Mexico with Gamesa and Sabritas in the fourth quarter on the snack side.

On the beverage side, we were ramping up both launches of non-carbs like Tropicana Twister in India and China, as well as Gatorade in China, in anticipation of the Olympics. We also are investing in a higher level of coolers and beverages, again targeted at key high growth emerging markets.

Bill Pecoriello - Morgan Stanley

Great, thank you.

Operator

Thank you, your next question is from Lauren Torres with HSBC.

Lauren Torres - HSBC

Good afternoon.

Indra Nooyi

Hi, Lauren.

Richard Goodman

Hi, Lauren.

Lauren Torres - HSBC

Indra, I was hoping you could talk a little bit about your acquisitions strategy for this year. Now as your competition has become more active, are you think about building your business differently, particularly your US beverage business?

Indra Nooyi

Our acquisition strategy has been relatively unchanged for the last few years, Lauren and I suspect it will remain unchanged for the next few years. We basically focus on tuck-in acquisitions, defined as those that help us fill our wide spaces, or add capabilities to our company in related and in adjacent markets, and that's really what we've been focused on. Our tuck-in strategy pipeline for 2008 again is very robust. We talked about $1.3 billion of acquisitions that we concluded in 2007. I hope we can keep up that pace in 2008 because our pipeline is looking very, very impressive at this point.

Lauren Torres - HSBC

And also one quick question for Richard. Is there any guidance you could provide us with in respect to corporate expense for this year?

Richard Goodman

Yeah. I mean, corporate expenses actually were pretty flat in 2007, and we would expect them to be sort of flat to slightly down in 2008. Where you are seeing that in 2008 is, you will see some increased expenditures for our SAP transformation, both internationally and domestically, some of which is just really a mix difference between expense and capital.

Lauren Torres - HSBC

All right, thank you.

Operator

Thank you. Your next question is from Bill Leach with Neuberger Berman.

Bill Leach - Neuberger Berman

Good morning.

Indra Nooyi

Hi, Bill.

Bill Leach - Neuberger Berman

Hi. Richard could you be a little bit more specific on what kind of bottling capital gains you're budgeting for the year, in your 372 guidance?

Richard Goodman

I think we indicated that we would continue to sell down some of the PBG shares that we own, and that we would and we've begun selling some of PAS shares as well. And so I think you will see numbers that are -- it certainly depends upon where the market takes us. Obviously, their stock prices have changed over the last month. So it's not a budget issue, it's a gradual move down in the ownership percentages.

Bill Leach - Neuberger Berman

What was the gain last year? Was it about 8 times a share?

Richard Goodman

The gain was, I think, around $150 million. I think.

Bill Leach - Neuberger Berman

So you would expect a comparable gain this year, just roughly?

Richard Goodman

I think we're not going to comment on the gains that we would expect.

Bill Leach - Neuberger Berman

Okay.

Indra Nooyi

We don't know the price, that's why.

Bill Leach - Neuberger Berman

All right, well congratulation on a great year.

Richard Goodman

Thank you.

Indra Nooyi

Thank you, Bill.

Operator

Thank you. And the next question is from Brian Spillane with Banc of America Securities.

Brian Spillane - Banc of America Securities

Good morning.

Indra Nooyi

Hi, Brian. Good morning, Brian.

Brian Spillane - Banc of America Securities

A question on, in 2008 you're facing pretty high or very high commodity costs. You have taken pretty extraordinary actions, both in terms of pricing and productivity, relative to the average, in order to combat that. We look out over a three-year time horizon. How much of what you're doing do you view for budgeting purposes as being incremental? And how much of it is just pulling forward some things that may have been later in your three-year plan? And I guess what I am driving at is, as we think about our earnings models going out over three years, have we just pulled forward some of those levers or do you think this is incremental for that plan?

Indra Nooyi

Well it's tough to answer because pricing, we clearly have pulled forward. We would not have had this level of pricing. We would have had a slow increase in pricing over time. We've had to pull forward pricing, so that's very incremental. With some of the productivity programs, the ingenuity of the PepsiCo associates really comes out, Brian, because when faced with inflation, the teams just got together and said, what new ideas can we come up with? And Mike referred to our Star programs. Ideas seem to be coming forth from every corner on how we can cover some of the inflation. So I don't know if it's pulling forward, because our core productivity programs which are multi-year programs, those are continuing on. What we are seeing in 2008 is extraordinary new programs that are coming in place to cover extraordinary inflation. So I suspect year-over-year, you are going to see more of those come by. Moreover, Michael or John, if you want to add something on that.

Mike White

Yeah, let me just come out, because I've spent a fair amount of time with the procurement guys going through a number of the grain complexes and cooking oils. And all of the outside advisors would tell you that there has been a correction. That as ethanol and the use of food for fuel, as the connection has been made, and in fact the markets are beyond what they should be, if you look at the economics of fuel for food. Having said that, the markets are where they are. So, all of the perspective we get is that longer term, I don't expect them to go back down.

There has been a one time, I would say, adjustment in the commodity markets, and who knows where oil and the fuel would go over the next several years. But none of the models that we have looked at from external advisors would suggest that there is another massive increase in commodities that one would expect over the next three years, even adjusting for the ethanol and that. Having said that, commodity markets are pretty hard to predict.

Richard Goodman

And I think also, I guess, this is Richard, some of the changes in energy or in food costs also create opportunities for new productivity. It's certainly against those, both from a formulation standpoint, as well as, from a manufacturing standpoint. So I think part of it is bringing forward stuff that we saw. A part of it is, there will new programs. And part of it is that circumstances themselves creates some opportunities for us, from a productivity standpoint.

Brian Spillane - Banc of America Securities

So then, is it reasonable to assume that there may be a little bit more pricing in your long-term model than there was maybe three years ago?

Richard Goodman

I think it really, at the end of the day, depends upon where the commodity prices are. We have no intention of doing any one pricing than we need to in the current environment, and it's a little hard to have a crystal ball on exactly, whether 2009, whether the prices will stay stable or whether they will continue to increase, but we certainly have no interest in taking any more pricing that we need to.

Brian Spillane - Banc of America Securities

Okay, great. And Richard, if I could follow-up just on net interest expense, any guidance there for this year?

Richard Goodman

Brian, I think overall you've probably seen net interest expense increasing just simply because we are borrowing for acquisitions. And so that what you saw this year was, the average debt balance went up roughly inline with our acquisitions, and as we do more acquisitions, you will see that interest expense go up. The flipside is, of course, then we will have the earnings from those businesses.

Brian Spillane - Banc of America Securities

Okay, great. Thank you very much.

Operator

Thank you. Your next question is from Justin Hott with Bear Stearns.

Justin Hott - Bear Stearns

Thanks. Can you answer a couple of questions maybe on Russia? The growth you are seeing in the metropolitan areas in Moscow, and in St. Petersburg, versus other areas of the country? And maybe how it's going on juices and cool replacements out there? Thanks.

Mike White

Yeah, Justin, it's Mike. I actually was in Moscow just a couple of weeks ago. First, let me talk about that we're very, very pleased and bullish on our business in Russia. On the snack side we had a very strong fourth quarter, with terrific growth in our Russia business of almost 30% kilo growth in Q4. And we're off to a terrific start in Russia this year as well with our snacks business, with strong double-digit performance there as well. So I'm very optimistic about our Russia business. Our biggest challenge on the snacks side is getting another [PC 50 Fryer] in there fast enough so that we can continue to support the growth with the consumer. On the beverage side as well, we had a very good fourth quarter.

We are very pleased with the performance. We have terrific growth particularly on non-carbs. We were double-digit growth overall in Russia for the quarter with very, very strong growth from energy, as well as water, as well as our Lipton trademark which is a fabulous story in Russia. We have a very balanced portfolio, 50% is carbonated soft drinks, 50% is non-carbs. We're seeing good growth there, I'm optimistic, as well, about this year, and certainly if you look at the country and then you split it by region or by city, you're seeing just proportionate growth from outside of Moscow and St. Pete, but even Moscow and St. Pete continue to be healthy, but I think you are seeing trickle down of the GDP per capita income growth all across the country.

Justin Hott - Bear Stearns

Mike is this strategy out there

Mike White

Sorry,

Justin Hott - Bear Stearns

In essence can you talk about what you have done out there?

Mike White

Our Tropicana business had a good year last year in Russia, and juices overall, again, you have to factor in some of the commodity costs challenges. So I think we're seeing certainly some price increases in juices, commence sort of with some of the commodity cost challenges, particularly on apples. And that may create some headwinds for the juice category in the short run, but again the growth in juices continues to be healthy, and I expect over the long run we'll continue to be a very, very healthy and attractive category in Russia.

Justin Hott - Bear Stearns

Okay, thanks and -- thanks a lot.

Indra Nooyi

Thanks, Justin.

Operator

Thank you. Your next question is from Kaumil Gajrawala with UBS.

Kaumil Gajrawala - UBS

Hi, good afternoon everyone.

Indra Nooyi

Hey Kaumil.

Kaumil Gajrawala - UBS

I guess, Richard, first, we talked a lot about info costs and what you're doing, but not much about hedging. So could you help us on hedging so we can, may be monitor volatility and some of the key inputs over the course of the year?

Richard Goodman

I mean, clearly our coverage, we have more coverage, as you would expect, in the first half of the year than we do in the second half of the year, but we have -- we are constantly, just as a company, we do forward buys and we use some hedging mechanisms as well in order to be able to cover our commodity costs. And we've done that over the last several years and clearly we did that coming into 2008 as well. And what you're seeing, what I had talked about earlier was, clearly with the ramp up in the commodity costs in the second half of 2007, clearly the year-over-year lapse in the first half of the year, even if we had and even when we have coverage, it's going to be a little bit higher than it is in the second half of the year.

Kaumil Gajrawala - UBS

Okay. And then quickly on AMP, and the relationship with the bottlers. If we can get an update, I understand those discussions on moving the manufacturing over and those are having any impact on execution of institution as we go in to roll out.

Indra Nooyi

Massimo?

Massimo d’Amore

Yeah, Kaumil. Indeed there will be absolutely no impact on the execution because the bottle, we're already selling the product before, so there is no change and there is some rebalancing of the supply indeed from co-packers to the bottlers, but this will have absolutely no impact whatsoever.

Kaumil Gajrawala - UBS

Yeah. Thank you.

Operator

Thank you. Your final question is from Eric Katzman with Deutsche Bank.

Eric Katzman - Deutsche Bank

Hi, good morning.

Indra Nooyi

Hi, Eric.

Eric Katzman - Deutsche Bank

Actually, good afternoon.

Richard Goodman

Yeah.

Eric Katzman - Deutsche Bank

Just a quick follow up on the volume and demand [US] you have just seen on Frito-Lay. I guess, Indra, you noted that you have the flexibility of the DST network and that's true, but it differs from manufacturing kind of warehouse distribution, in that, fixed costs of running the trucks out everyday are kind of on you. So I mean, how do we think about if the demand elasticity is worse, does the pricing cover it, or is that a risk to the numbers?

Indra Nooyi

John you want to take that?

John Compton

Eric, as I said the Frito-Lay for the year did write at 3% volume growth and while we are going into a little bit of unchartered territory, again we are still expecting good volume growth in the business. We are talking moderate -- coming down to half a point to a point overall and we won't know of course until we get into the middle of the year. So far, so good, coming out of the gates, you can see the scan numbers in the month of January. So as it relates to the DST system, route engineering is a source of productivity as well. So that's something that we did in the fourth quarter.

That's an ongoing tool that Frito-Lay uses, so they are constantly updating the route engineering models as is Sabritas and Gamesa in our DST systems in Latin America. So no, I don't expect de-leverage in selling expense, in our S&D cost. In fact, that has been a source of leverage for us in our P&Ls and I think it will continue to be one.

Indra Nooyi

Eric the advantage of having DST, is as fast as you can add routes, you can take out routes. So it's a fixed cost. If you want to look at it that way, but it's also a semi-variable cost because it gives you the flexibilities to take out the routes.

Eric Katzman - Deutsche Bank

Okay, All right that's helpful. Thank you.

Indra Nooyi

Thank you all for your time and attention and we truly appreciate your interest in PepsiCo and look forward to speaking with you soon, perhaps at CAGNY. Thank you.

Operator

Thank you. This concludes PepsiCo's fourth quarter 2007 earnings conference call. You may now disconnect.

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Source: PepsiCo, Inc. Q4 2007 Earnings Call Transcript
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