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Edited Transcript of GRUMAB.MX earnings conference call or presentation 25-Apr-19 3:30pm GMT

Q1 2019 Gruma SAB de CV Earnings Call

San Pedro May 1, 2019 (Thomson StreetEvents) -- Edited Transcript of Gruma SAB de CV earnings conference call or presentation Thursday, April 25, 2019 at 3:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Raúl Cavazos Morales

Gruma, S.A.B. de C.V. - CFO

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Conference Call Participants

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* Alan Alanis

UBS Investment Bank, Research Division - MD and Latin American Equity Strategist

* Alexander Reid Robarts

Citigroup Inc, Research Division - MD and Head of Latin American Consumer Staples Equity Research Team

* Felipe Ucros Nunez

Scotiabank Global Banking and Markets, Research Division - Analyst

* Fernando Olvera Espinosa de los Monteros

BofA Merrill Lynch, Research Division - Associate

* Laura Martinez

S&P Global Ratings Inc. - Former Credit Analyst

* Lucas Ferreira

JP Morgan Chase & Co, Research Division - Analyst

* Luis Miranda Valenzuela

Santander Investment Securities Inc., Research Division - Head of Food and Beverage

* Miguel Angel Tortolero

GBM Grupo Bursátil Mexicano, S.A. de C.V. Casa de Bolsa, Research Division - Research Analyst

* Pablo Peregrina Abraham

BBVA Corporate and Investment Bank, Research Division - Research Analyst

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Presentation

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Operator [1]

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Good morning, ladies and gentlemen, thank you for standing by. Welcome to Gruma's First Quarter 2019 Earnings Conference Call. (Operator Instructions)

I would now like to turn the call back over to our host, Mr. Raúl Cavazos, Gruma's Chief Financial Officer. Thank you, you may begin.

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [2]

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Thank you. Good morning, everyone, and thank you for joining us today. We are pleased to discuss our first quarter 2019 performance review. During the quarter, our sales volume grew in Europe, the U.S. and Central America, while there was slight decrease in GIMSA. All in, on a consolidated basis, we are reporting 1% sales volume increase. This volume growth coupled with price increases in GIMSA, [there are the] prices in the U.S. and the peso weakness result in a 6% net sales increase. EBITDA rose 7%, and EBITDA margin improved to 15.5%, reflecting changes arising from the adoption of IFRS 16, while leases have to be considered as assets and the lease expenses are considered depreciation, therefore, benefiting the EBITDA margin.

Excluding the effects of from IFRS 16, EBITDA will have declined 1% due to higher SG&A arising from severance paying related to our restructuring process across the company, which we expect to yield savings over the coming quarters. Our comprehensive financing cost increased MXN 162 million, due mainly to higher interest expenses as well as on top of higher debt and higher interest rate as well as the regional interest expenses starting from the adoption of IFRS 16.

Income taxes was 1% lower than last year. The effective tax rate was 36.7%. [Earned net] income decline 20% during primarily by higher SG&A and higher interest expense. In terms of CapEx, we invest $8 million during the quarter. Our main target were additional production lines out of tortillas plants in Dallas, Florida and central Mexico. On a comparable basis, Gruma [debt] grew $42 million during the quarter in conjunction with higher core inventories, taking our net debt-to-EBITDA ratio at 1.5x. The adoption of IFRS 16 where leases were considered as debt generated and additional increase in debt costs of $226 million resulted in a total debt of $1.4 billion with a net debt-to-EBITDA ratio of 1.9x.

Now let's talk a little bit about the main subsidiaries. Our Gruma USA, sales volume grows 2%, driven by the corn flour operations, which grew 6% while the tortilla business declined 1% due to continued rationalization of low-margin SKUs in the full-service channel. Net sales increased 3% due to volume growth and higher average prices, (inaudible) the tortilla business derived from the change in the sales mix. EBITDA rose 5% and EBITDA margin improved 20 basis points to 17.8% due to the adoption of IFRS 16.

Excluding derivatives from this adoption, EBITDA would have declined 4% affected by higher SG&A mostly related from the severance payment [migration] which should have yield benefits beginning in the second half of the year. Also lots of prices increased to offset the [calculation] impacted EBITDA. Our GIMSA sales volume fell 1% driven mainly by lower sales to wholesalers. Net sales declined 7%, primarily retracted prices increased implemented in January of this year and August of last year.

EBITDA margin was basically [set] at 16.2% and EBITDA increased 6% in connection with the net sales growth, excluding the benefits of the adoption of IFRS 16, EBITDA would have been 5% higher and EBITDA margin would have been 16%. Based on what we discussed about Gruma USA and GIMSA for Gruma USA, we now expect EBITDA margin to decline 20 to 30 basis points on a comparable basis for the full 2018.

We expect to recover margins throughout the following quarters based mainly on additional mix benefits from the sales mix, savings from the restructuring plan, and transportation efficiencies particularly on the corn flour business. For GIMSA, due to the volume reflected in the first quarter of the year, we now expect sales volume to be flattish to slightly lower during this 2019.

At Gruma Europe, sales volume surged 11%, driven by both lines of business that corn flour, millet and tortilla. As we properly resume sales to former mix customers and also gain new customers in several regions. Net sales declined 3% primarily due to effects from FX through [pesos] and [to our excellent strength] by the sales mix. EBITDA rose 1% and EBITDA margin improved 30 basis points to 6.5% in connection with the adoption of IFRS 16. Excluding these adoption, EBITDA would have declined 1% and EBITDA margin would have been 6.3%.

At Gruma Centroamérica, sales volume increased 11%, mainly from lack of corn due to bad local crops. The increases in the demand of corn flour (inaudible) brand is (inaudible). Net sales rose 8%, representing lower average prices, [money] connection with the sales mix change (inaudible) brands as well as negative impact on FX from pesos. EBITDA increased 19% in connection with volume growth and lower SG&A and EBITDA margin improved 100 basis points to 11.8%. Excluding the adoption of IFRS 16, EBITDA would have increased 15% and EBITDA margin would have been 11.4%.

On the other subsidiaries and eliminations line, EBITDA declined MXN 36 million to MXN 6 million, affected by severance payment, accounting regulations and lower activities in the other technologies (inaudible).

With this, we conclude our remarks this morning. So at this point, we turn the call over to Alan for the Q&A session. Alan, will you please help us?

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of Alan Alanis from UBS.

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Alan Alanis, UBS Investment Bank, Research Division - MD and Latin American Equity Strategist [2]

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Raul, can you expand on these restructuring charges that you had during the first quarter? And what are going to be the benefits that we should be seeing in the next few quarters, specifically, both regarding costs, but also I'm wondering if you could talk a bit about the top line, about the growth that you're seeing? That's the first question. I have another question, but let's take that one first.

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [3]

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Yes, well, talking about the restructuring and we implemented a (inaudible) and what basically oriented, Alan, for the production on the (inaudible) expenses. What we basically did, we canceled around 420 positions. The cost of this restructuring will be something around $8.5 million, which will be most of this, about 75%, about $6 million to $6.5 million we already impacted the results from the first quarter. The rest will be impacted during the second quarter. And with this, we are expecting benefits around $60 million for the full year. Of course, for this year, the benefits will be a little lower because we make that -- commented this decision by the end of the quarter, during March and some other that we implemented in the second quarter in the month of April. If you talk about on an annualized basis, it will be -- the benefit would be $60 million, which means that we are basically paying the severance payments with about 6 months or so and that's the one that we're expecting in terms of where it'll be impacting also the EBITDA in the coming quarters and the coming years.

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Alan Alanis, UBS Investment Bank, Research Division - MD and Latin American Equity Strategist [4]

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Got it. That's very clear. Now a more strategic question regarding your business in the United States. It's been that you've been doing a very good job in protecting your margins in the United States considering the competition that there's in the U.S. and so forth. But to what extent are you, let me frame it this way, over-protecting your margins at the expense of top line growth and even EBITDA growth? How should we think about that? In other words, how willing are you to say, "You know what, I'm in" -- you're already way above your cost of capital, do you have right now with the adjust of IFRS your margins are in the high teens. That is going to make tough some negotiations with your retailers in the United States and your clients in the United States. How should we be thinking about maybe going for slightly lower volume margins or accelerating the top line in a meaningful way and use this opportunity to gain market share given in the United States? Or that's just -- that's not the priority of the company?

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [5]

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Yes, Alan. Well, let me tell you, at this point in time, we were trying to negotiate some kind of price increases with our retailer in the U.S. We were not able to do that, so that is why we are now updating our estimates for the full year for (inaudible), which means that we are not expecting to have ideally the first half of the year as this is some price increase. What we basically did, we kept the prices at the same level, but we gained original shelf space with our retailers in the dealers. And what we're doing now, we're launching to the market new products, value-added products, particularly on corn and with flour tortilla. We already launch the whole wheat [in Chile and quinoa]. The whole wheat honey oat, the whole wheat sprout and (inaudible) as well as mini or street tacos, we already launched a street tacos with yellow corn as well as whole wheat carb balance. With all these new products, we are taking advantage in the prices, of course, those -- these prices were already affected by the wholesalers. And then, what we are expecting is through this mix related in -- related to value-added products, we are expecting to have -- to keep this (inaudible) in the future. We're not expecting at this point in time that we need to sacrifice a lower -- or to sacrifice EBITDA margins in order to gain market share or to gain or to move on the top line on sales. We are expecting that this strategy, we are now still growing on sales in Gruma Corp, even higher by the competitors in a very good way that we are basically -- we are keeping the volumes and sales for Gruma Corp. Particularly, we are expecting for this year the same volume we discussed during the first quarter. This would be something between 1% to 2% higher than last year.

And in terms of sales, we are expecting to be something around 4% higher in terms of net sales. Then, as I told you, we are not expecting to sacrifice any kind of EBITDA in order to gain market share or to still volume on our top line.

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Operator [6]

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Our next question comes from the line of Fernando Olvera from Bank of America Merrill Lynch.

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Fernando Olvera Espinosa de los Monteros, BofA Merrill Lynch, Research Division - Associate [7]

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First Raul, if it's possible, can you repeat the changes to your guidance, please? I missed them. If it's possible. And my question is, my first question is regarding Mexico. I mean volume declined 1% year-over-year, and I was wondering if there was any particular reason that explains wholesalers lower demand during the quarter? And if -- do you expect this to continue going forward? I know this is the first quarter of the year, but do you feel comfortable with the performance? And regarding hedges, given the recent decline in grain prices, I was wondering if you have started to hedge your U.S. needs forward 2020? And if you can tell us, at which level and what percentage of your need do you hedge them, please?

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [8]

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Sure, Fernando, of course. Talking about the changes in our guidance, basically what we are doing is we're keeping our volumes in Gruma corp at the same level, 1% to 2%. Net sales, we are increasing from 2% to 4% for the full year. However, EBITDA margin, we're expecting we were talking during the first quarter, a margin of about 17.7%. For now, what we're expecting is will be something between 20 to 30 basis points lower in terms of margin for the full year. In GIMSA, we are basically using our volumes due to the wholesalers, and I will explain a little later, what we are expecting in that and what are the reason why we are having lower volumes. But we were discussed in the first quarter something around 1% to 2% volume growth at GIMSA. Now we are basically talking about the volume will be flattish or a little bit lower in the year. However, net sales, we are expecting to be in the same levels, something about 6% to 7%, which is basically the same guidance we did in the first quarter. And EBITDA margin also, we are expecting to be in the same 16% margin we discussed at the beginning of the year. That's basically the changes we have implemented in the guidance. In terms of consolidated figures, well, we are basically keeping the same volume growth margin by about 1% to 2% higher. In terms of sales, high single-digit, but when we talk about high single-digit, we're talking about something between maybe 8% to 10% higher, or 8% to 9.5% higher net sales on a consolidated basis. But EBITDA margin we will discuss in the year-over-year improvements of about 70 basis points. At this point in time, we are talking about a reduction of about 20 to 30 basis points basically. This is talking about the guidance, in regards to the consolidated Mexico what's going on, basically, during the last year -- in the last year, we were selling (inaudible) amount of volumes in brand [kilo] package to wholesalers. These wholesalers were basically supplying programs for the (inaudible). And even we are now supplying directly to this government and to these business. The volumes we used to have to these wholesalers have been lower during the first quarter, and we're expecting because of lack of volume for the Mexican government to keep to these levels for the rest of the year. The answer why, we are basically changing the guidance for the volumes. However, again, in terms of our sales, we're keeping our guidance for the remainder of the year, which will be 6% to 7%; and EBITDA margin again, it will be basically the same 16% EBITDA margin for use for the full year. Of course, in this, we're not taking into consideration price increases in the second half of the year. If for some reason, we need to implement some additional price increase because of the higher cost of corn or higher expense or whatever that will be discussed in the next conference call. But at this point in time, we are not expecting to increase any kind of prices for the full -- for the rest of the year.

In terms of hedges for 2020. Let me tell you that we are taking advantage a little bit about the recent performance of the market in the commodities. In terms of the corn, we already hedged basically 10%. We are expecting that we will be able to hedge a little bit maybe during the month of September, we will be able to hedge the corn. And we are expecting to have a very good crop -- top crop in the U.S., as we are expecting prices to be in better than Colombia. That's why we already put the strategy and we have placed our orders with our brokers in order to hedge this price of the corn. In terms of wheat, we already hedged about 50% of the -- which requires for the full 2020 at $4.95 per bushel, which will be about $0.15 lower than the price of the corn we have during 2019. In terms of the corn, that we already have is basically the full -- the price of the corn we hedged is $3.73, which is $0.10 higher than the current cost of corn. But our full year strategy -- the whole strategy that we already put in place, we are expecting to be a little bit lower in terms of the current cost of corn we are needing in 2019 for the U.S. In GIMSA, we already hedged the corn for the second half of the year on the corn that we will use for the second half and maybe -- but with part of the first quarter of 2020, we already hedged the corn in the market. And we have better cost of corn than we have currently. We have about -- the current cost of corn is about $3.73 per bushel, and we already hedged for the second half is about $3.69 to $3.68 something about, a little bit lower.

In terms of natural gas, we already hedged for the U.S. the about 86% of the natural gas at a lower cost of the natural gas we are using in 2018. This is for the whole U.S. operations. We're talking about (inaudible) [$0.07] compared with the current cost of natural gas. And for Mexico in natural gas, we already hedged 80% of the requirements for 2020 at about $0.30 lower -- [$0.10 have gone] lower than the cost of natural gas that we're using in 2018. This is what we can talk a little bit about the hedging we already have. And still have all the full strategy for the full year, and we definitely we will be able to get a good price of corn and to wait for that for the full year.

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Operator [9]

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Our next question comes from the line of Felipe Ucros from Scotiabank.

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Felipe Ucros Nunez, Scotiabank Global Banking and Markets, Research Division - Analyst [10]

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I think most of my questions on severance prices in the U.S. and volumes in Mexico were asked. But I was hoping, if maybe you can give us a little more detail on how the severance program is spread throughout the different regions? If I'm correct, the severance adjustments were mostly in the U.S. and Mexico, but maybe you can give us a little detail on how much it will affect each region?

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [11]

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Talking about the price increases in the U.S. -- excuse me, severance payments, excuse me. Again, and the full cost of the severance payment will be something between $8 million and $8.5 million. That will be on a global basis for the full -- on all the regions. And we have not the breakdown by divisions at this point in time, but we can provide you that something about maybe it will be -- no, I will calculate -- I will make this breakdown at some point in time. But we will talk about that maybe in the next conference call. Maybe more than 50% is coming from the U.S. operations basically. The benefits will be about $60 million for the full year. And also the (inaudible) will come from the U.S. operations.

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Operator [12]

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Our next question comes from the line of Luis Miranda from Santander bank.

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Luis Miranda Valenzuela, Santander Investment Securities Inc., Research Division - Head of Food and Beverage [13]

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Just a couple of follow-up questions. The first one on the U.S. Raul, I just want to understand is, when you talk about the price increases in the retail channel, and I fully understand these improvements in the sales mix with the new products. But with the interaction you've had with your clients, you're still aiming to continue pushing for the price increases? Or is it really been -- it's something that it might not happen this year? If I could clarify, if I was correct that it was close to 2%, so this is not happening? And the second question is, can you give an update on the share buyback program, how much has it been used? And will you have the shareholder meeting in five days, does the objective continue to be to cancel the shares?

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [14]

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Yes, sure. We are talking about the price increases in the U.S. We are not expecting at this point in time, just to be conservative, we are not expecting to have price increase for the rest of the year. We already have hedged of all our raw materials. Then what we want to do basically just to try to take advantage of the savings in order to benefit the sales of the company. But at this point in time, what I can tell you is, no. The answer is no. We are not expecting to have some price increases throughout the year, at least, maybe for the next -- until maybe by the end of the year. But at this point in time, it is too early to be thinking about that. If we have some changes or we have some kind of (inaudible) in the next months about these price increases maybe we can discuss in the next conference call. But for -- on a conservative side, I just want for you to take into consideration that we are not expecting to have any price increase for this year in the U.S. The second question was related to the canceled shares. Yes, let me tell you the answer, the annual shareholder meeting will take place tomorrow, and in this shareholders meeting what we are expecting is to pose to the shareholders meeting the cancellation of about 11.9 million shares. And also yes, we like to continue to participate with our purchase fund during this year. And we are proposing or we were to propose the increase of about 40%, the amount we have been available for this present fund for the next (inaudible), let's say. In other words, what we're expecting is that we need to process [MXN 3.5 billion] for this purchase for the next period. And because (inaudible) and if we pushback some shares from the market, those shares we also cancel in the shareholder meeting for next year. That basically the -- as we disclosed in the past, basically this is kind of the dividend we want to grant to our shareholders, coupled with the dividends that we are paying in cash.

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Operator [15]

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Our next question comes from the line of Alex Robarts from Citigroup.

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Alexander Reid Robarts, Citigroup Inc, Research Division - MD and Head of Latin American Consumer Staples Equity Research Team [16]

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I wanted to go back to the U.S. and ask 2 questions if I may. The first one on top line and then the second one on your new margin guidance for the U.S. business. So when we think about the top line and what we saw in the quarter I guess you've been -- you kind of told us it's almost 2 percentage points I guess -- sorry, 1.4 points on mix and that is an interesting gain and clear improvement. And I just wanted to understand a little bit better, when we think about your supermarket sales at Mission, I guess that's about 60% of your sales and to kind of get an overall price/mix benefit of 1.5 points is good news. And I'm just wondering if that is mainly on the back of these higher value-added products? Is it also reflecting the packaging mix changes that you're making, and to the extent that you're removing some of the lower margin products in the food service? But I mean, what would you say if you can help us understand that price/mix benefit most? If I could start with that, that would be great.

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [17]

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Sure. Sure, Alex. Let me tell you that what we are basically doing is launching value-added products and we are focusing our sales and the marketing programs in the U.S. to improve the sales on the value-added products. That is why you have been seeing or you have seen benefits in the company to -- during the last 3 to 4 years because most of the sales is coming from the value-added products. And when we talk about value-added products, we are talking about products in [cheap] stores and with our tortilla products. And on tortilla, low-carb tortilla, which we have tremendous growth and this is growing in a very good way. Gluten-free that we already know has been a very well -- very good acceptance from the consumers. The champion of course, at this point in time is low carb. But we are expecting that this new product we already launch -- and we are expecting to launch new products throughout the year. This is going to be much better and could benefit the top line for Gruma Corp and Mission Foods. Then of course all this bad weather problems have much better (inaudible) much better contribution margin for the company and that is why we are expecting to have this kind of improvement. Also in the corn flour side, we are increasing a little bit the price in retail market. And the (inaudible) gives us a couple of things. We already increase prices on a -- with some products of clients on the food service also. We already implemented those price increases. And then all this combined, that's why we are expecting to benefit from that. Then instead of growing in a very problem way, our volumes, we are modestly growing 1% to 2% volumes, but we are growing more than double on sales because of these recent [mix].

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Alexander Reid Robarts, Citigroup Inc, Research Division - MD and Head of Latin American Consumer Staples Equity Research Team [18]

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Right, okay. So it sounds like you're guiding to at least 2 points in price/mix, and sounds it like the key drivers are the low carb Mission products, but also it looks like -- I'm sorry, low carbs...

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [19]

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Low carbs, we are doing whole wheat, it's about quinoa and chia and all the portfolio of value-added products, mostly oriented for healthy foods, which is now a tremendous trend for consumers in the market and we need to bring a little bit more in together healthy products for some (inaudible).

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Alexander Reid Robarts, Citigroup Inc, Research Division - MD and Head of Latin American Consumer Staples Equity Research Team [20]

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Sure, sure, so in the last 12 months, I mean if you can just look at the last 12 months, which is what we're seeing here in the quarter on a year-on-year basis in terms of your price/mix. Where would you say the value-added products at Mission have gotten to? Do you think, is it less than 1/4 or 30% of your sales? Or is it more than 30%? Or do you track it like that? Or it's not really tracked as far as the percentage of your Mission sales? The value-added, I mean.

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [21]

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It's going to be something about 10% maybe.

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Alexander Reid Robarts, Citigroup Inc, Research Division - MD and Head of Latin American Consumer Staples Equity Research Team [22]

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10%. Okay. And it is just interesting because as we think about the price in the retail channel having to be postponed or might not happen, all right? So that was kind of you weren't able to do the price increase in retail? And it sounds like it's because of negotiations with the retailers are just more difficult or they're pushing back. But it strikes me that you've got all these new products that are higher margin and assumingly higher margin for them, what do you think is the pushback? And why is it that you think you might not have a price increase in the retail channel this year in the United States?

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [23]

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Well, this year, this year, of course, retailers are looking for better probability for them. They have been increasing prices, but these price increases have been taken by them. Instead of shared those price increases to the producers, let's say. And then, what we basically gain in these negotiations is we expect to not increase prices at this point in time, we gain additional shelf space, additional tables or the aisles of the stores with these value-added products. And that our sales are growing and that is compensating a little bit these price increases, and that's why the company is doing that. That's what we can expect for the year. Again, maybe in the future it's kind of important change on the, let's say, on the raw material market, of course, we will be going back to them to see if we can increase prices to avoid that kind of (inaudible) back. At this point in time, we are in negotiations (inaudible). Because of the higher volumes we are experiencing [with these products]. And higher volumes for value-added products.

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Alexander Reid Robarts, Citigroup Inc, Research Division - MD and Head of Latin American Consumer Staples Equity Research Team [24]

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Very clear, very clear. And sorry, just if I may on the last on the margins. If we think about this new guidance of 20 to 30 basis points down in the Gruma U.S.A. margin, I mean I guess as I think about it for the last years, you've always had an expand, so this would be the first time in several years where it looks like you basically expect a little less margin. And as I think about the savings you're getting from the severance, right? These interesting new value-added products and the lower margin and SKUs in the food service. Is that lower margin guidance this year basically about a weaker wheat hedge or the G-plus expenses? It seems like the trend would be to have another year of margin expansion, but it's not that case, and I just wondered if you can help us just understand where the guidance for lower margin is coming from? That would be great.

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [25]

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Yes. Let me tell you for the full year, we are expecting for us to continue some [consolidation] expenses for the IT process we are implementing in Gruma Corp, and with our other divisions. These are going to be something about $9.5 million for the full year for Gruma Corp. And the severance payments, what we are basically doing is, of course, we are now seeing the market is going to be a challenging year. And that is why the company is starting to have to [constrain] that it's better to negotiate, not (inaudible) additional expenses in order to be more efficient. And that is why the company implemented this head count reduction. And of course, the lack of price increases, it will be the reason why we are doing that. But if we talk about no price increases, we talk about additional (inaudible) expenses. And we have the full benefit for the restructuring process that will imply kind of improvement in margins on [top of Gruma Corp] because if it will be something about on annualized basis, $60 million, it would be enough to compensate this lack of price increase.

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Operator [26]

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Our next question comes from the line of Miguel Tortolero with GBM.

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Miguel Angel Tortolero, GBM Grupo Bursátil Mexicano, S.A. de C.V. Casa de Bolsa, Research Division - Research Analyst [27]

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I have 2 questions both regarding the U.S. The first one is, how long should we expect to continue to see the effect of the head count reduction on volumes? And the other one, at the end of the day, this process aims to migrate towards more profitable products, but until now, the only thing we have seen is the negative effect on volumes. So the question is, have you seen any benefit of -- in profitability, that probably we don't see because of the pricing environment?

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [28]

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Okay, and sorry again, the first question talking about the -- in the acceleration in the [food services], we are expecting that will be finalized by end of the second quarter or the [middle] quarter of this year. And we are going to be finalizing this process. We already increase prices to some products and supplies. And we feel comfortable that maybe by the middle of the year we will be basically finalizing leadership, SKUs and (inaudible). However, in general terms, this strategy is continue, and maybe we will make a full review for all our SKUs not only in the foods that are now in the process but in the retail. And we will see what we can do if we need to do something like that. At this point in time, we're not taking into consideration anything else. And the second question, sorry, but I did not understand you, what you ask. Can your repeat again please the question?

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Miguel Angel Tortolero, GBM Grupo Bursátil Mexicano, S.A. de C.V. Casa de Bolsa, Research Division - Research Analyst [29]

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Yes. The question is if you have seen any benefit on profitability thanks to these programs because we have not seen the revenue probably because of the pricing environment and some pressure there at the top level, but have you actually seen an improvement in your margins due to this program?

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [30]

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Are you talking about some particular program, excuse me...

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Miguel Angel Tortolero, GBM Grupo Bursátil Mexicano, S.A. de C.V. Casa de Bolsa, Research Division - Research Analyst [31]

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The [head count] reduction at the end of day, it happens to great that there are more profitable products. We haven't seen that because of the pricing environment possibly in the U.S., but the question is, if you have seen any benefit...

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [32]

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Yes, absolutely. Yes. Sorry, I didn't understand you. But of course, we did improvements in the profitability in the food service, easily our (inaudible) reduction or rationalization. And we are now benefiting from this strategy. Since we were able to take out SKUs that we were losing money. And now we are basically making money in most of the other products. Of course, we saw particular time if we supply with different sales maybe we can sacrifice some of them. But the full relationship with this client, it will be more profitable for us. And we have reflected that in the results of the company of course.

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Miguel Angel Tortolero, GBM Grupo Bursátil Mexicano, S.A. de C.V. Casa de Bolsa, Research Division - Research Analyst [33]

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Okay. Raul just a quick one. I would just like to get your view on the overall industry tortilla growth in the U.S. We cannot get a clear reading with your tortilla volumes because again, they're affected by the SKUs reduction, but with your corn flour sales to other tortilla producers, it could seem that the PA industry is growing faster, so I just would like to know -- to get your view on that?

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [34]

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No, let me tell you that tortilla industry reported (inaudible) something about 1% in the first half of the year. The company is expecting -- growing faster than (inaudible). And this is going to be the case. In the particular case of corn flour, we are growing our sales is because we are taking clients from our competitors, we are gaining market share. They also may be selling a little more tortilla in dollar terms as well as in volumes, we're growing at the level -- the volume growth for tortilla for Mission is much higher than our competitors. When you talk about maybe purchase price maybe some of our (inaudible) are a little bit higher in terms of percentage because of the size of this space. But in terms of volumes and in terms of dollar term, we are growing much faster. The other thing is we are basically orienting to ships frozen foods as well as (inaudible).

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Operator [35]

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Our next question is from the line of Lucas Ferreira with JPMorgan.

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Lucas Ferreira, JP Morgan Chase & Co, Research Division - Analyst [36]

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First question is on the COGS of the U.S. operations. You mentioned in the release that you had some pressure coming from labor, freight. I was wondering if this is still the case for the coming quarters, if you see additional pressure coming from that given increasing oil prices. So if you think that this is already reflected in your guidance, that would be by first question?

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [37]

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Yes. Well, yes. Certainly, [these items] are already reflected the increase in the future expenses. While we are basically doing, we are opening new warehouses and new distribution centers throughout the states that we're now asking the use of future expenses, otherwise we ask some kind of improvements on this operation cost. But the tariffs, we are taking into consideration are basically ongoing, but they are eventually will be recognized. But we are now taking into consideration in our guidance these additional cost.

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Lucas Ferreira, JP Morgan Chase & Co, Research Division - Analyst [38]

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And my second question is about the income taxes, the percentage of sales increased a little more in the quarter. You mentioned also in your release that you have some business losing money. So wondering if you could give us more details if there's anything kind of specific in this quarter that led to that? Or if it's a -- something more structured that you guys have to tackle, if you can share a little bit more detail?

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [39]

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Well, talking about the income taxes, what we are expecting is basically, we are in the lower of the guidance we did at the beginning of the year. That's what we are expecting. We're taking efforts to try to have a lower effective tax rate. We are looking for some additional strategies and at this point in time, we have not any that would allow us. But we are basically in the same guidance we did earlier, which will be something about 36% to 37% effective tax rate.

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Operator [40]

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Our next question comes from the line of Pablo Abraham from BBVA.

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Pablo Peregrina Abraham, BBVA Corporate and Investment Bank, Research Division - Research Analyst [41]

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Just a quick question regarding your leasing expense. According to the cash flow statement in the (inaudible) files and the change in the depreciation from quarter-to-quarter, the leasing expenses should be around to MXN 210 million, right? And second...

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [42]

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Yes.

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Laura Martinez, S&P Global Ratings Inc. - Former Credit Analyst [43]

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If it's true, this figure is sustainable or we should expect increases in what magnitude?

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [44]

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Yes, no, basically -- it was basically there, the same amount will be there. Keep in mind that most of these leases are because of so (inaudible) and particularly in the quarter, and we are basically there. The only change would be, you can see in the lease changes on the exchange rate. Where we consolidate this quarter, we kind of [forget]. But in terms of dollars, it will be basically there.

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Pablo Peregrina Abraham, BBVA Corporate and Investment Bank, Research Division - Research Analyst [45]

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Okay. Great. And one follow-up question, what is the duration -- what's the average duration of your leases, 7, 8 years?

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [46]

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No, let me tell you that we in some cases, in some particular cases, we have (inaudible) -- yes, about maybe 15 years more or less because we already have the facility, we already invested, we already have the appropriate conditions to operate at full capacity, let's say. And we want to just be sure that will still operate. But this is basically probably we have over the (inaudible) average.

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Operator [47]

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Our next question comes from the line of [Roy Kama] from [Blue].

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Unidentified Analyst, [48]

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Just back to the competitive environment. Something you've been talking about is in-store the tortillerias. Is that a long-term threat to the business? I mean what are you seeing in the stores that have these operations? Do they take -- do these operations take market share from you? Is it a competitive threat?

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [49]

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No, let me tell you that in Mexico, in-store tortilleria is basically there, it has been there these last 10 years. And we basically are not worrying too much. In the U.S., they have been in some particular areas, but not too much. Particularly California, keep in mind that California or most likely that's particularly is the second largest city in the world with Mexicans, and Mexicans usually prefer the homemade tortilla and use the supermarket in the store tortilleria (inaudible). But in this particular case, we provide them the corn flour and then we are making business with them. But no, we are not seeing any high competition from these guys in the U.S. in tortilla. We operate with all of them. And we have our brand and they're just, let's say, the sales on this market increase we have the -- that have the tortilleria, we have very good sales also in these stores.

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Operator [50]

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Our next question comes from the line of [Veronica Renero] with BNP Parabas.

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Unidentified Analyst, [51]

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Raul, can you remind us that something said on the previous call. On the G-plus program, was is the total cost of such program? How much has been spent as of today? And what's the expenditure plan for this year?

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [52]

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Sure, [Veronica]. Well, if we talk about the full cost, it will be something about $60 million, it will be from -- implemented from, let's say, we started a couple of years ago and we will finalize it in 2021 or in the middle of 2022. Since today, we've been charging something about $40 million in between '17 to '18. We're expecting to have some additional maybe $19 million with this 2019. In this, we're including some additional processes as we are processing not only from SEP but from additional processes we're implementing to, let's say, manage on or remaining let's say (inaudible) in order to more efficient to have lower rates and lower -- better products and more efficiencies in our production lines. And for 2020, we will do something about $5 million. That's what we have so far for (inaudible). Now this [$8.5 million] we talk about -- $2.5 million we talk about, this is basically oriented or is [searching] by Gruma Corp. The full amount, I don't know if I told you, it was $50 million or $70 million, but this is $70 million, okay? Then again, we're expecting to finalize but also maybe 2021. We raised than more than 50%. The only issue is that you compare with that implement this (inaudible) in last August. Then we have been spending money from in this project from 2017. However, because we did implement we were able to finalize the expenses we include in these processes or in this project. One, we start implementation of this project, while ability to recharge as a expenses instead of (inaudible) so when you compare 2018 to -- in 2018, you want to see the differences, but from August and on, we will be basically comparable or even (inaudible).

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Unidentified Analyst, [53]

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Okay, and just to complete on this topic. What's the expected cost savings more or less from the total program?

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [54]

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Well, we are talking about the total benefits from this project would be something about $35 million per year, $30 million to $35 million per year.

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Operator [55]

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Thank you. Ladies and gentlemen, we have no further questions in queue at this time. I'd like to turn the floor back over to management for closing.

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Raúl Cavazos Morales, Gruma, S.A.B. de C.V. - CFO [56]

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Okay, thank you. Lastly, on (inaudible), we talk about the savings and that we're expecting once we fully implemented in all the company. Of course, the savings will be stage-by-stage. At this point in time, we already (inaudible) at Gruma Corp, if you one we are expecting to have a [benefit from a loss] [$15 million] per year or something about it. But once we implemented the -- fully implemented the expectations used to be something about $30 million to [30] -- a little bit more million per year. Well, thank you, thank you everybody for your time with us today. Once again, thank you very much. And you have any questions please feel free to contact us. Have a nice day. Thank you very much.

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Operator [57]

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Ladies and gentlemen, this does conclude Gruma First Quarter 2019 Earnings Conference Call. Thank you for participation, you may now disconnect.