CEDC Results and Re-evaluation

CEDC released 2Q12 results ending 30 June 2012 and filed an amended FY11 annual report which restates 2011 and 2010 accounts. While 2Q12 results point to an improvement in underlying operating performance, the cumulative EBITDA adjustments of $63m for the 2011-2010 periods are greater than the company’s previous guidance of $49m. Furthermore, CEDC notes that the cumulative impact of the restatements exceeds certain thresholds in the amended agreement with Russian Standard Corporation (RS) and as a result CEDC has started "discussions regarding this matter" with RS.

2Q12 results: Organic sales grew 7%, however was more than offset by 13% negative FX impact and resulted in a 6% decline in reported net sales to $187m. Gross profit was broadly flat at $75m while gross margin improved 260bps to 40% on price increases and favorable mix impact. Normalized EBITDA increased to $21.1m from $20m in the prior year (restated accounts) and EBITDA margin improved 125bps to 11.3%. In Russia, sales increased 5% in local currency mainly on pricing / mix impact while volume growth was muted at 1% (-1% for vodka). On a reported basis, sales declined 5% to $125m after FX losses. Russia operating profit increased 9% to $7.6m at an 80bps higher margin of 6.1% helped by pricing/mix and stabilization in spirit prices (at RUR38.9/liter, 35% higher yoy). In Poland, sales grew 16% in local currency driven by 6% pricing/mix impact and 10% increase in volumes (vodka volumes +6%). On a reported basis, sales declined 4% to $56m while operating profits grew 11% to $9m at a 215bps higher margin of 16.2% benefitting from improved pricing and mix and stabilizing cost base.

In 2Q12, net debt declined to $1.18bn from $1.23bn at FY11, mainly driven by the equity issuance of $30m to Roust Trading Ltd. Net debt to EBITDA improved to 10.5x (LTM EBITDA of $112.4m) from13.3x at FY11 (based on restated FY11 EBITDA of $92m). CEDC had $139m of cash as at 2Q12.

2011 and 2010 restatements: CEDC reported that 2011 and 2010 EBITDA were overstated by $31.7m and $30.9m respectively as a result of trade rebate and trade marketing related accounting treatments in those periods. The adjustments bring down FY11 EBITDA to $92m form $124m and 2010 EBITDA to $152m from $183m respectively.

Analysts at J.P. Morgan are changing their recommendation to Neutral from Overweight on CEDC €430m, 8.875% Snr Sec Notes due 2016 (€.70-72, YTW 20.3%) and on CEDC’s $380m, 9.125% Snr Sec Notes due 2016 ($70-72, YTW 19.7%) (8 October, 8:41am for both). While 2Q results show some marginal improvement in core business, we are increasingly concerned by the never ending twists and turns in the company's results' restatement for 2010 and 2011 and the ongoing need to renegotiate the Russian Standard agreement given this restatement. Our OW recommendation on CEDC was based on 1) the announcement of the convert deal with RS and as such, the removal of liquidity concerns about the 2013 convert and 2) on our view that Russia was a turnaround story with the RS involvement strategically positive for both companies in Russia. We continue to believe in the merits of the RS strategic involvement with CEDC, and expect Russian operations to continue to improve. However, at this point in our view the call on CEDC is purely speculative, we have zero visibility and are very uncomfortable with the management vacuum following the departure of the CEO and CFO.

(Source: JP Morgan Chase)