Pepsi Bottling Group (PBG)

UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

 

 

 

 

FORM 10-K

 

 

 

Commission file number 1-14893

 

The Pepsi Bottling Group, Inc.

(Exact name of Registrant as Specified in its Charter)

 

 

Registrant’s telephone number, including area code: (914) 767-6000

 

 

Securities registered pursuant to Section 12(b) of the Act:

 

 

 

Securities registered pursuant to Section 12(g) of the Act: None

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes þ  No o

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.  Yes o  No þ

 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days.  Yes þ  No o

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o  No þ

 

The number of shares of Common Stock and Class B Common Stock of The Pepsi Bottling Group, Inc. outstanding as of February 15, 2008 was 221,280,719 and 100,000, respectively. The aggregate market value of The Pepsi Bottling Group, Inc. Capital Stock held by non-affiliates of The Pepsi Bottling Group, Inc. (assuming for the sole purpose of this calculation, that all executive officers and directors of The Pepsi Bottling Group, Inc. are affiliates of The Pepsi Bottling Group, Inc.) as of June 15, 2007 was $4,914,636,239 (based on the closing sale price of The Pepsi Bottling Group, Inc.’s Capital Stock on that date as reported on the New York Stock Exchange).

 

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ITEM 1. BUSINESS

 

Introduction

 

The Pepsi Bottling Group, Inc. (“PBG”) was incorporated in Delaware in January, 1999, as a wholly owned subsidiary of PepsiCo, Inc. (“PepsiCo”) to effect the separation of most of PepsiCo’s company-owned bottling businesses. PBG became a publicly traded company on March 31, 1999. As of January 25, 2008, PepsiCo’s ownership represented 35.2% of the outstanding common stock and 100% of the outstanding Class B common stock, together representing 41.7% of the voting power of all classes of PBG’s voting stock. PepsiCo also owned approximately 6.7% of the equity interest of Bottling Group, LLC, PBG’s principal operating subsidiary, as of January 25, 2008. When used in this Report, “PBG,” “we,” “us,” “our” and the “Company” each refers to The Pepsi Bottling Group, Inc. and, where appropriate, to Bottling Group, LLC, which we also refer to as “Bottling LLC.”

 

PBG operates in one industry, carbonated soft drinks and other ready-to-drink beverages, and all of our segments derive revenue from these products. We conduct business in all or a portion of the United States, Mexico, Canada, Spain, Russia, Greece and Turkey. PBG manages and reports operating results through three reportable segments: U.S. & Canada, Europe (which includes Spain, Russia, Greece and Turkey) and Mexico. The operations of the United States and Canada are aggregated into a single reportable segment due to their economic similarity as well as similarity across products, manufacturing and distribution methods, types of customers and regulatory environments. Operationally, the Company is organized along geographic lines with specific regional management teams having responsibility for the financial results in each reportable segment.

 

In 2007, approximately 76% of our net revenues were generated in the U.S. & Canada, 14% of our net revenues were generated in Europe, and the remaining 10% of our net revenues were generated in Mexico. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Note 12 in the Notes to Consolidated Financial Statements for additional information regarding the business and operating results of our reportable segments.

 

Principal Products

 

PBG is the world’s largest manufacturer, seller and distributor of Pepsi-Cola beverages. In addition, in some of our territories we have the right to manufacture, sell and distribute soft drink products of companies other than PepsiCo, including Dr Pepper and Squirt. We also have the right in some of our territories to manufacture, sell and distribute beverages under trademarks that we own, including Electropura, e-pura^mr and Garci Crespo. The majority of our volume is derived from brands licensed from PepsiCo or PepsiCo joint ventures.

 

We have the exclusive right to manufacture, sell and distribute Pepsi-Cola beverages in all or a portion of 41 states and the District of Columbia in the United States, nine Canadian provinces, Spain, Greece, Russia, Turkey and 23 states in Mexico.

 

In 2007, approximately 73% of our sales volume in the U.S. & Canada was derived from carbonated soft drinks and the remaining 27% was derived from non-carbonated beverages, 72% of our sales volume in Europe was derived from carbonated soft drinks and the remaining 28% was derived from non-carbonated beverages, and 51% of our Mexico sales volume was derived from carbonated soft drinks and the remaining 49% was derived from non-carbonated beverages. Our principal beverage brands include the following:

 

 

 

 

No individual customer accounted for 10% or more of our total revenues in 2007, although sales to Wal-Mart Stores, Inc. and its affiliated companies were 9.7% of our revenues in 2007, primarily as a result of transactions in the U.S. & Canada segment. We have an extensive direct store distribution system in the United States, Canada and in Mexico. In Europe, we use a combination of direct store distribution and distribution through wholesalers, depending on local marketplace considerations.

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Raw Materials and Other Supplies

 

We purchase the concentrates to manufacture Pepsi-Cola beverages and other beverage products from PepsiCo and other beverage companies.

 

In addition to concentrates, we purchase sweeteners, glass and plastic bottles, cans, closures, syrup containers, other packaging materials, carbon dioxide and some finished goods. We generally purchase our raw materials, other than concentrates, from multiple suppliers. PepsiCo acts as our agent for the purchase of such raw materials in the United States and Canada and, with respect to some of our raw materials, in certain of our international markets. The Pepsi beverage agreements, as described below, provide that, with respect to the beverage products of PepsiCo, all authorized containers, closures, cases, cartons and other packages and labels may be purchased only from manufacturers approved by PepsiCo. There are no materials or supplies used by PBG that are currently in short supply. The supply or cost of specific materials could be adversely affected by various factors, including price changes, strikes, weather conditions and governmental controls.

 

Franchise and Venture Agreements

 

We conduct our business primarily under agreements with PepsiCo. These agreements give us the exclusive right to market, distribute, and produce beverage products of PepsiCo in authorized containers and to use the related trade names and trademarks in specified territories.

 

Set forth below is a description of the Pepsi beverage agreements and other bottling agreements to which we are a party.

 

Terms of the Master Bottling Agreement. The Master Bottling Agreement under which we manufacture, package, sell and distribute the cola beverages bearing the Pepsi-Cola and Pepsi trademarks in the United States was entered into in March of 1999. The Master Bottling Agreement gives us the exclusive and perpetual right to distribute cola beverages for sale in specified territories in authorized containers of the nature currently used by us. The Master Bottling Agreement provides that we will purchase our entire requirements of concentrates for the cola beverages from PepsiCo at prices, and on terms and conditions, determined from time to time by PepsiCo. PepsiCo may determine from time to time what types of containers to authorize for use by us. PepsiCo has no rights under the Master Bottling Agreement with respect to the prices at which we sell our products.

 

Under the Master Bottling Agreement we are obligated to:

 

 

The Master Bottling Agreement requires us to meet annually with PepsiCo to discuss plans for the ensuing year and the following two years. At such meetings, we are obligated to present plans that set out in reasonable detail our marketing plan, our management plan and advertising plan with respect to the cola beverages for the year. We must also present a financial plan showing that we have the financial capacity to perform our duties and obligations under the Master Bottling Agreement for that year, as well as sales, marketing, advertising and capital expenditure plans for the two years following such year. PepsiCo has the right to approve such plans, which approval shall not be unreasonably withheld. In 2007, PepsiCo approved our plans.

 

If we carry out our annual plan in all material respects, we will be deemed to have satisfied our obligations to push vigorously the sale of the cola beverages, increase and fully meet the demand for the cola beverages in our territories and maintain the financial capacity required under the Master Bottling Agreement. Failure to present a plan or carry out approved plans in all material respects would constitute an event of default that, if not cured within 120 days of notice of the failure, would give PepsiCo the right to terminate the Master Bottling Agreement.

 

If we present a plan that PepsiCo does not approve, such failure shall constitute a primary consideration for determining whether we have satisfied our obligations to maintain our financial capacity, push vigorously the sale of the cola beverages and increase and fully meet the demand for the cola beverages in our territories.

 

If we fail to carry out our annual plan in all material respects in any segment of our territory, whether defined geographically or by type of market or outlet, and if such failure is not cured within six months of notice of the failure, PepsiCo may reduce the territory covered by the Master Bottling Agreement by eliminating the territory, market or outlet with respect to which such failure has occurred.

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PepsiCo has no obligation to participate with us in advertising and marketing spending, but it may contribute to such expenditures and undertake independent advertising and marketing activities, as well as cooperative advertising and sales promotion programs that would require our cooperation and support. Although PepsiCo has advised us that it intends to continue to provide cooperative advertising funds, it is not obligated to do so under the Master Bottling Agreement.

 

The Master Bottling Agreement provides that PepsiCo may in its sole discretion reformulate any of the cola beverages or discontinue them, with some limitations, so long as all cola beverages are not discontinued. PepsiCo may also introduce new beverages under the Pepsi-Cola trademarks or any modification thereof. When that occurs, we are obligated to manufacture, package, distribute and sell such new beverages with the same obligations as then exist with respect to other cola beverages. We are prohibited from producing or handling cola products, other than those of PepsiCo, or products or packages that imitate, infringe or cause confusion with the products, containers or trademarks of PepsiCo. The Master Bottling Agreement also imposes requirements with respect to the use of PepsiCo’s trademarks, authorized containers, packaging and labeling.

 

If we acquire control, directly or indirectly, of any bottler of cola beverages, we must cause the acquired bottler to amend its bottling appointments for the cola beverages to conform to the terms of the Master Bottling Agreement. Under the Master Bottling Agreement, PepsiCo has agreed not to withhold approval for any acquisition of rights to manufacture and sell Pepsi trademarked cola beverages within a specific area – currently representing approximately 11.63% of PepsiCo’s U.S. bottling system in terms of volume – if we have successfully negotiated the acquisition and, in PepsiCo’s reasonable judgment, satisfactorily performed our obligations under the Master Bottling Agreement. We have agreed not to acquire or attempt to acquire any rights to manufacture and sell Pepsi trademarked cola beverages outside of that specific area without PepsiCo’s prior written approval.

 

The Master Bottling Agreement is perpetual, but may be terminated by PepsiCo in the event of our default. Events of default include:

 

 

An event of default will also occur if any person or affiliated group acquires any contract, option, conversion privilege, or other right to acquire, directly or indirectly, beneficial ownership of more than 15% of any class or series of our voting securities without the consent of PepsiCo. As of February 15, 2008, to our knowledge, no shareholder of PBG, other than PepsiCo, held more than 9.4% of our common stock.

 

We are prohibited from assigning, transferring or pledging the Master Bottling Agreement, or any interest therein, whether voluntarily, or by operation of law, including by merger or liquidation, without the prior consent of PepsiCo.

 

The Master Bottling Agreement was entered into by us in the context of our separation from PepsiCo and, therefore, its provisions were not the result of arm’s-length negotiations. Consequently, the agreement contains provisions that are less favorable to us than the exclusive bottling appointments for cola beverages currently in effect for independent bottlers in the United States.

 

Terms of the Non-Cola Bottling Agreements. The beverage products covered by the non-cola bottling agreements are beverages licensed to us by PepsiCo, including Mountain Dew, Aquafina, Sierra Mist, Diet Mountain Dew, Mug Root Beer and Mountain Dew Code Red. The non-cola bottling agreements contain provisions that are similar to those contained in the Master Bottling Agreement with respect to pricing, territorial restrictions, authorized containers, planning, quality control, transfer restrictions, term and related matters. Our non-cola bottling agreements will terminate if PepsiCo terminates our Master Bottling Agreement. The exclusivity provisions contained in the non-cola bottling agreements would prevent us from manufacturing, selling or distributing beverage products that imitate, infringe upon, or cause confusion with, the beverage products covered by the non-cola bottling agreements. PepsiCo may also elect to discontinue the manufacture, sale or distribution of a non-cola beverage and terminate the applicable non-cola bottling agreement upon six months notice to us.

 

Terms of Certain Distribution Agreements. We also have agreements with PepsiCo granting us exclusive rights to distribute AMP and Dole in all of our territories, SoBe in certain specified territories and Gatorade and G2 in certain specified channels. The distribution agreements contain provisions generally similar to those in the Master Bottling Agreement as to use of trademarks, trade names, approved containers and labels and causes for termination. We also have the right to sell Tropicana juice drinks in the United States and Canada, Tropicana juices in Russia and Spain, and Gatorade in Spain, Greece and Russia and in certain limited channels of distribution in the United States and Canada. Some of these beverage agreements have limited terms and, in most instances, prohibit us from dealing in similar beverage products.

 

Terms of the Master Syrup Agreement. The Master Syrup Agreement grants us the exclusive right to manufacture, sell and

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distribute fountain syrup to local customers in our territories. We have agreed to act as a manufacturing and delivery agent for national accounts within our territories that specifically request direct delivery without using a middleman. In addition, PepsiCo may appoint us to manufacture and deliver fountain syrup to national accounts that elect delivery through independent distributors. Under the Master Syrup Agreement, we have the exclusive right to service fountain equipment for all of the national account customers within our territories. The Master Syrup Agreement provides that the determination of whether an account is local or national is at the sole discretion of PepsiCo.

 

The Master Syrup Agreement contains provisions that are similar to those contained in the Master Bottling Agreement with respect to concentrate pricing, territorial restrictions with respect to local customers and national customers electing direct-to-store delivery only, planning, quality control, transfer restrictions and related matters. The Master Syrup Agreement had an initial term of five years which expired in 2004 and was renewed for an additional five-year period. The Master Syrup Agreement will automatically renew for additional five-year periods, unless PepsiCo terminates it for cause. PepsiCo has the right to terminate the Master Syrup Agreement without cause at any time upon twenty-four months notice. In the event PepsiCo terminates the Master Syrup Agreement without cause, PepsiCo is required to pay us the fair market value of our rights thereunder.

 

Our Master Syrup Agreement will terminate if PepsiCo terminates our Master Bottling Agreement.

 

Terms of Other U.S. Bottling Agreements. The bottling agreements between us and other licensors of beverage products, including Cadbury Schweppes plc for Dr Pepper, Schweppes, Canada Dry, Hawaiian Punch and Squirt, the Pepsi/Lipton Tea Partnership for Lipton Brisk and Lipton Iced Tea, and the North American Coffee Partnership for Starbucks Frappuccino^®, contain provisions generally similar to those in the Master Bottling Agreement as to use of trademarks, trade names, approved containers and labels, sales of imitations and causes for termination. Some of these beverage agreements have limited terms and, in most instances, prohibit us from dealing in similar beverage products.

 

Terms of the Country-Specific Bottling Agreements. The country-specific bottling agreements contain provisions generally similar to those contained in the Master Bottling Agreement and the non-cola bottling agreements and, in Canada, the Master Syrup Agreement with respect to authorized containers, planning, quality control, transfer restrictions, term, causes for termination and related matters. These bottling agreements differ from the Master Bottling Agreement because, except for Canada, they include both fountain syrup and non-fountain beverages. Certain of these bottling agreements contain provisions that have been modified to reflect the laws and regulations of the applicable country. For example, the bottling agreements in Spain do not contain a restriction on the sale and shipment of Pepsi-Cola beverages into our territory by others in response to unsolicited orders. In addition, in Mexico and Turkey we are restricted in our ability to manufacture, sell and distribute beverages sold under non-PepsiCo trademarks.

 

Terms of the Russia Venture Agreement. In 2007, PBG together with PepsiCo formed PR Beverages Limited (“PR Beverages”), a venture that will enable us to strategically invest in Russia to accelerate our growth. We contributed our business in Russia to PR Beverages, and PepsiCo entered into bottling agreements with PR Beverages for PepsiCo beverage products sold in Russia on the same terms as in effect for us immediately prior to the venture. PepsiCo also granted PR Beverages an exclusive license to manufacture and sell the concentrate for such products.

 

Seasonality

 

Sales of our products are seasonal, particularly in our Europe segment, where sales volumes tend to be more sensitive to weather conditions. Our peak season across all of our segments is the warm summer months beginning in May and ending in September. More than 70% of our operating income is typically earned during the second and third quarters. More than 80% of cash flow from operations is typically generated in the third and fourth quarters.

 

Competition

 

The carbonated soft drink market and the non-carbonated beverage market are highly competitive. Our competitors in these markets include bottlers and distributors of nationally advertised and marketed products, bottlers and distributors of regionally advertised and marketed products, as well as bottlers of private label soft drinks sold in chain stores. Among our major competitors are bottlers that distribute products from The Coca-Cola Company including Coca-Cola Enterprises Inc., Coca-Cola Hellenic Bottling Company S.A., Coca-Cola FEMSA S.A. de C.V. and Coca-Cola Bottling Co. Consolidated. Our market share for carbonated soft drinks sold under trademarks owned by PepsiCo in our U.S. territories ranges from approximately 21% to approximately 40%. Our market share for carbonated soft drinks sold under trademarks owned by PepsiCo for each country outside the United States in which we do business is as follows: Canada 44%; Russia 24%; Turkey 18%; Spain 11% and Greece 10% (including market share for our IVI brand). In addition, market share for our territories and the territories of other Pepsi bottlers in Mexico is 15% for carbonated soft drinks sold under trademarks owned by PepsiCo. All market share figures are based on generally available data published by third parties. Actions by our major competitors and others in the beverage industry, as well as the general economic environment, could have an impact on our future market share.

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We compete primarily on the basis of advertising and marketing programs to create brand awareness, price and promotions, retail space management, customer service, consumer points of access, new products, packaging innovations and distribution methods. We believe that brand recognition, market place pricing, consumer value, customer service, availability and consumer and customer goodwill are primary factors affecting our competitive position.

 

Governmental Regulation Applicable to PBG

 

Our operations and properties are subject to regulation by various federal, state and local governmental entities and agencies in the United States as well as foreign governmental entities and agencies in Canada, Spain, Greece, Russia, Turkey and Mexico. As a producer of food products, we are subject to production, packaging, quality, labeling and distribution standards in each of the countries where we have operations, including, in the United States, those of the Federal Food, Drug and Cosmetic Act and the Public Health Security and Bioterrorism Preparedness and Response Act. The operations of our production and distribution facilities are subject to laws and regulations relating to the protection of our employees’ health and safety and the environment in the countries in which we do business. In the United States, we are subject to the laws and regulations of various governmental entities, including the Department of Labor, the Environmental Protection Agency and the Department of Transportation, and various federal, state and local occupational, labor and employment and environmental laws. These laws and regulations include the Occupational Safety and Health Act, the Clean Air Act, the Clean Water Act, the Resource Conservation and Recovery Act, the Comprehensive Environmental Response, Compensation and Liability Act, the Superfund Amendments and Reauthorization Act, the Federal Motor Carrier Safety Act and the Fair Labor Standards Act.

 

We believe that our current legal, operational and environmental compliance programs are adequate and that we are in substantial compliance with applicable laws and regulations of the countries in which we do business. We do not anticipate making any material expenditures in connection with environmental remediation and compliance. However, compliance with, or any violation of, future laws or regulations could require material expenditures by us or otherwise have a material adverse effect on our business, financial condition or results of operations.

 

Bottle and Can Legislation. Legislation has been enacted in certain U.S. states and Canadian provinces where we operate that generally prohibits the sale of certain beverages in non-refillable containers unless a deposit or levy is charged for the container. These include California, Connecticut, Delaware, Hawaii, Iowa, Maine, Massachusetts, Michigan, New York, Oregon, West Virginia, British Columbia, Alberta, Saskatchewan, Manitoba, New Brunswick, Nova Scotia and Quebec. Legislation prohibited the sale of carbonated beverages in non-refillable containers in Prince Edwards Islands in 2007, but this law is expected to change in 2008.

 

Massachusetts and Michigan have statutes that require us to pay all or a portion of unclaimed container deposits to the state and Hawaii and California impose a levy on beverage containers to fund a waste recovery system.

 

In addition to the Canadian deposit legislation described above, Ontario, Canada currently has a regulation requiring that at least 30% of all soft drinks sold in Ontario be bottled in refillable containers.

 

The European Commission issued a packaging and packing waste directive that was incorporated into the national legislation of most member states. This has resulted in targets being set for the recovery and recycling of household, commercial and industrial packaging waste and imposes substantial responsibilities upon bottlers and retailers for implementation. Similar legislation has been enacted in Turkey.

 

Mexico adopted legislation regulating the disposal of solid waste products. In response to this legislation, PBG Mexico maintains agreements with local and federal Mexican governmental authorities as well as with civil associations, which require PBG Mexico, and other participating bottlers, to provide for collection and recycling of certain minimum amounts of plastic bottles.

 

We are not aware of similar material legislation being enacted in any other areas served by us. We are unable to predict, however, whether such legislation will be enacted or what impact its enactment would have on our business, financial condition or results of operations.

 

Soft Drink Excise Tax Legislation. Specific soft drink excise taxes have been in place in certain states for several years. The states in which we operate that currently impose such a tax are West Virginia and Arkansas and, with respect to fountain syrup only, Washington. In Mexico, there are excise taxes on any sweetened beverage products produced without sugar, including our diet soft drinks and imported beverages that are not sweetened with sugar.

 

Value-added taxes on soft drinks vary in our territories located in Canada, Spain, Greece, Russia, Turkey and Mexico, but are consistent with the value-added tax rate for other consumer products. In addition, there is a special consumption tax applicable to cola products in Turkey. In Mexico, bottled water in containers over 10.1 liters are exempt from value-added tax, and we obtained a tax exemption for containers holding less than 10.1 liters of water.

 

We are not aware of any material soft drink taxes that have been enacted in any other market served by us. We are unable to predict, however, whether such legislation will be enacted or what impact its enactment would have on our business, financial condition or results of operations.

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Trade Regulation. As a manufacturer, seller and distributor of bottled and canned soft drink products of PepsiCo and other soft drink manufacturers in exclusive territories in the United States and internationally, we are subject to antitrust and competition laws. Under the Soft Drink Interbrand Competition Act, soft drink bottlers operating in the United States, such as us, may have an exclusive right to manufacture, distribute and sell a soft drink product in a geographic territory if the soft drink product is in substantial and effective competition with other products of the same class in the same market or markets. We believe that there is such substantial and effective competition in each of the exclusive geographic territories in which we operate.

 

School Sales Legislation; Industry Guidelines. In 2004, U.S. Congress passed the Child Nutrition Act, which required school districts to implement a school wellness policy by July 2006. In May 2006, members of the American Beverage Association, the Alliance for a Healthier Generation, the American Heart Association and The William J. Clinton Foundation entered into a memorandum of understanding that sets forth standards for what beverages can be sold in elementary, middle and high schools in the United States (the “ABA Policy”). Also, the beverage associations in the European Union and Canada have recently issued guidelines relating to the sale of beverages in schools. We intend to comply fully with the ABA Policy and these guidelines.

 

California Carcinogen and Reproductive Toxin Legislation. A California law requires that any person who exposes another to a carcinogen or a reproductive toxin must provide a warning to that effect. Because the law does not define quantitative thresholds below which a warning is not required, virtually all manufacturers of food products are confronted with the possibility of having to provide warnings due to the presence of trace amounts of defined substances. Regulations implementing the law exempt manufacturers from providing the required warning if it can be demonstrated that the defined substances occur naturally in the product or are present in municipal water used to manufacture the product. We have assessed the impact of the law and its implementing regulations on our beverage products and have concluded that none of our products currently requires a warning under the law. We cannot predict whether or to what extent food industry efforts to minimize the law’s impact on food products will succeed. We also cannot predict what impact, either in terms of direct costs or diminished sales, imposition of the law may have.

 

Mexican Water Regulation. In Mexico, we pump water from our own wells and we purchase water directly from municipal water companies pursuant to concessions obtained from the Mexican government on a plant-by-plant basis. The concessions are generally for ten-year terms and can generally be renewed by us prior to expiration with minimal cost and effort. Our concessions may be terminated if, among other things, (a) we use materially more water than permitted by the concession, (b) we use materially less water than required by the concession, (c) we fail to pay for the rights for water usage or (d) we carry out, without governmental authorization, any material construction on or improvement to, our wells. Our concessions generally satisfy our current water requirements and we believe that we are generally in compliance in all material respects with the terms of our existing concessions.

 

Employees

 

As of December 29, 2007, we employed approximately 69,100 workers, of whom approximately 33,600 were employed in the United States. Approximately 9,300 of our workers in the United States are union members and approximately 17,100 of our workers outside the United States are union members. We consider relations with our employees to be good and have not experienced significant interruptions of operations due to labor disagreements.

 

Available Information

 

We maintain a website at www.pbg.com. We make available, free of charge, through the Investor Relations – Financial Information – SEC Filings section of our website, our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and any amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, as soon as reasonably practicable after such reports are electronically filed with, or furnished to, the Securities and Exchange Commission (the “SEC”).

 

Additionally, we have made available, free of charge, the following governance materials on our website at www.pbg.com under Investor Relations – Company Information – Corporate Governance: Certificate of Incorporation, Bylaws, Corporate Governance Principles and Practices, Worldwide Code of Conduct (including any amendment thereto), Director Independence Policy, the Audit and Affiliated Transactions Committee Charter, the Compensation and Management Development Committee Charter, the Nominating and Corporate Governance Committee Charter, the Disclosure Committee Charter and the Policy and Procedures Governing Related-Person Transactions. These governance materials are available in print, free of charge, to any PBG shareholder upon request.

 

Financial Information on
Industry Segments and Geographic Areas

 

PBG manages and reports operating results through three reportable segments: U.S. & Canada, Europe (which includes Spain, Russia, Greece and Turkey) and Mexico. We changed our financial reporting methodology to three reportable segments beginning with the fiscal quarter ended March 25, 2006. Financial information for our fiscal year ending 2005 has been restated to reflect our current segment

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reporting structure. The change to segment reporting has no effect on our reported earnings.

 

For additional information, see Note 12 in the Notes to Consolidated Financial Statements included in Item 7 below.

 

ITEM 1A. RISK FACTORS

 

Our business and operations entail a variety of risks and uncertainties, including those described below.

 

We may not be able to respond successfully to
consumer trends related to carbonated and non-carbonated beverages.

 

Consumer trends with respect to the products we sell are subject to change. Consumers are seeking increased variety in their beverages, and there is a growing interest among the public regarding the ingredients in our products, the attributes of those ingredients and health and wellness issues generally. This interest has resulted in a decline in consumer demand for full-calorie carbonated soft drinks and an increase in consumer demand for products associated with health and wellness, such as water, enhanced water, teas, reduced calorie carbonated soft drinks and certain other non-carbonated beverages. Consumer preferences may change due to a variety of other factors, including the aging of the general population, changes in social trends, the real or perceived impact the manufacturing of our products has on the environment, changes in consumer demographics, changes in travel, vacation or leisure activity patterns or a downturn in economic conditions. Any of these changes may reduce consumers’ demand for our products.

 

Because we rely mainly on PepsiCo to provide us with the products that we sell, if PepsiCo fails to develop innovative products that respond to these and other consumer trends, we could be put at a competitive disadvantage in the marketplace and our business and financial results could be adversely affected. In addition, PepsiCo is under no obligation to provide us distribution rights to all of its products in all of the channels in which we operate. If we are unable to enter into agreements with PepsiCo to distribute innovative products in all of these channels or otherwise gain broad access to products that respond to consumer trends, we could be put at a competitive disadvantage in the marketplace and our business and financial results could be adversely affected.

 

We may not be able to compete successfully within the highly competitive carbonated and non-carbonated beverage markets.

 

The carbonated and non-carbonated beverage markets are highly competitive. Competitive pressures in our markets could cause us to reduce prices or forego price increases required to off-set increased costs of raw materials and fuel, increase capital and other expenditures, or lose market share, any of which could have a material adverse effect on our business and financial results.

 

We may not be able to respond successfully to the demands of our largest customers.

 

Our retail customers are consolidating, leaving fewer customers with greater overall purchasing power and, consequently, greater influence over our pricing, promotions and distribution methods. Because we do not operate in all markets in which these customers operate, we must rely on PepsiCo and other PepsiCo bottlers to service such customers outside of our markets. The inability of PepsiCo or PepsiCo bottlers as a whole, to meet the product, packaging and service demands of our largest customers could lead to a loss or decrease in business from such customers and have a material adverse effect on our business and financial results.

 

Because we depend upon PepsiCo to provide us with concentrate, certain funding and various services, changes in our relationship with PepsiCo could adversely affect our business and financial results.

 

We conduct our business primarily under beverage agreements with PepsiCo. If our beverage agreements with PepsiCo are terminated for any reason, it would have a material adverse effect on our business and financial results. These agreements provide that we must purchase all of the concentrate for such beverages at prices and on other terms which are set by PepsiCo in its sole discretion. Any significant concentrate price increases could materially affect our business and financial results.

 

PepsiCo has also traditionally provided bottler incentives and funding to its bottling operations. PepsiCo does not have to maintain or continue these incentives or funding. Termination or decreases in bottler incentives or funding levels could materially affect our business and financial results.

 

Under our shared services agreement, we obtain various services from PepsiCo, including procurement of raw materials and certain administrative services. If any of the services under the shared services agreement were terminated, we would have to obtain such services on our own. This could result in a disruption of such services, and we might not be able to obtain these services on terms, including cost, that are as favorable as those we receive through PepsiCo.

 

Our business requires a significant supply of raw materials and energy, the limited availability or increased costs of which could adversely affect our business and financial results.

 

The production and distribution of our beverage products is highly dependent on certain raw materials and energy. In particular, we require significant amounts of aluminum and plastic bottle

9

components, such as resin. We also require access to significant amounts of water. In addition, we use a significant amount of electricity, natural gas, motor fuel and other energy sources to operate our fleet of trucks and our bottling plants. Any sustained interruption in the supply of raw materials or energy or any significant increase in their prices could have a material adverse effect on our business and financial results.

 

PepsiCo’s equity ownership of PBG could affect matters concerning us.

 

As of January 25, 2008, PepsiCo owned approximately 41.7% of the combined voting power of our voting stock (with the balance owned by the public). PepsiCo will be able to significantly affect the outcome of PBG’s shareholder votes, thereby affecting matters concerning us.

 

We may have potential conflicts of interest with PepsiCo, which could result in PepsiCo’s objectives being favored over our objectives.

 

Our past and ongoing relationship with PepsiCo could give rise to conflicts of interests. In addition, two members of our Board of Directors typically are executive officers of PepsiCo, and one of the three Managing Directors of Bottling LLC, our principal operating subsidiary, is an officer of PepsiCo, a situation which may create conflicts of interest.

 

These potential conflicts include balancing the objectives of increasing sales volume of PepsiCo beverages and maintaining or increasing our profitability. Other possible conflicts could relate to the nature, quality and pricing of services or products provided to us by PepsiCo or by us to PepsiCo.

 

Conflicts could also arise in the context of our potential acquisition of bottling territories and/or assets from PepsiCo or other independent PepsiCo bottlers. Under our Master Bottling Agreement, we must obtain PepsiCo’s approval to acquire any independent PepsiCo bottler. PepsiCo has agreed not to withhold approval for any acquisition within agreed-upon U.S. territories if we have successfully negotiated the acquisition and, in PepsiCo’s reasonable judgment, satisfactorily performed our obligations under the master bottling agreement. We have agreed not to attempt to acquire any independent PepsiCo bottler outside of those agreed-upon territories without PepsiCo’s prior written approval.

 

Our acquisition strategy may be limited by our ability to successfully integrate acquired businesses into ours or our failure to realize our expected return on acquired businesses.

 

We intend to continue to pursue acquisitions of bottling assets and territories from PepsiCo’s independent bottlers. The success of our acquisition strategy may be limited because of unforeseen costs and complexities. We may not be able to acquire, integrate successfully or manage profitably additional businesses without substantial costs, delays or other difficulties. Unforeseen costs and complexities may also prevent us from realizing our expected rate of return on an acquired business. Any of the foregoing could have a material adverse effect on our business and financial results.

 

Our success depends on key members of our management, the loss of whom could disrupt our business operations.

 

Our success depends largely on the efforts and abilities of key management employees. Key management employees are not parties to employment agreements with us. The loss of the services of key personnel could have a material adverse effect on our business and financial results.

 

If we are unable to fund our substantial capital requirements, it could cause us to reduce our planned capital expenditures and could result in a material adverse effect on our business and financial results.

 

We require substantial capital expenditures to implement our business plans. If we do not have sufficient funds or if we are unable to obtain financing in the amounts desired or on acceptable terms, we may have to reduce our planned capital expenditures, which could have a material adverse effect on our business and financial results.

 

The level of our indebtedness could adversely affect our financial health.

 

The level of our indebtedness requires us to dedicate a substantial portion of our cash flow from operations to payments on our debt. This could limit our flexibility in planning for, or reacting to, changes in our business and place us at a competitive disadvantage compared to competitors that have less debt. Our indebtedness also exposes us to interest rate fluctuations, because the interest on some of our indebtedness is at variable rates, and makes us vulnerable to general adverse economic and industry conditions. All of the above could make it more difficult for us, or make us unable to satisfy our obligations with respect to all or a portion of such indebtedness and could limit our ability to obtain additional financing for future working capital expenditures, strategic acquisitions and other general corporate requirements.

 

Our foreign operations are subject to social, political and economic risks and may be adversely affected by foreign currency fluctuations.

 

In the fiscal year ended December 29, 2007, approximately 32% of our net revenues and approximately 26% of our operating income

10

were generated in territories outside the United States. Social, economic and political developments in our international markets (including Russia, Mexico, Canada, Spain, Turkey and Greece) may adversely affect our business and financial results. These developments may lead to new product pricing, tax or other policies and monetary fluctuations that may adversely impact our business and financial results. The overall risks to our international businesses also include changes in foreign governmental policies. In addition, we are expanding our sales and marketing efforts in certain emerging markets, such as Russia. Expanding our business into emerging markets may present additional risks beyond those associated with more developed international markets. Additionally, our results of operations and the value of our foreign assets are affected by fluctuations in foreign currency exchange rates.

 

If we are unable to maintain brand image and product quality, or if we encounter other product issues such as product recalls, our business may suffer.

 

Maintaining a good reputation globally is critical to our success. If we fail to maintain high standards for product quality, or if we fail to maintain high ethical, social and environmental standards for all of our operations and activities, our reputation could be jeopardized. In addition, we may be liable if the consumption of any of our products causes injury or illness, and we may be required to recall products if they become contaminated or are damaged or mislabeled. A significant product liability or other product-related legal judgment against us or a widespread recall of our products could have a material adverse effect on our business and financial results.

 

Changes in the legal and regulatory environment could increase our costs or liabilities or impact the sale of our products.

 

Our operations and properties are subject to regulation by various federal, state and local governmental entities and agencies as well as foreign governmental entities. Such regulations relate to, among other things, food and drug laws, competition laws, taxation requirements, accounting standards and environmental laws, including laws relating to the regulation of water rights and treatment. We cannot assure you that we have been or will at all times be in compliance with all regulatory requirements or that we will not incur material costs or liabilities in connection with existing or new regulatory requirements.

 

Adverse weather conditions could reduce the demand for our products.

 

Demand for our products is influenced to some extent by the weather conditions in the markets in which we operate. Unseasonably cool temperatures in these markets could have a material adverse effect on our sales volume and financial results.

 

Catastrophic events in the markets in which we operate could have a material adverse effect on our financial condition.

 

Natural disasters, terrorism, pandemic, strikes or other catastrophic events could impair our ability to manufacture or sell our products. Failure to take adequate steps to mitigate the likelihood or potential impact of such events, or to manage such events effectively if they occur, could adversely affect our sales volume, cost of raw materials, earnings and financial results.

 

None.

ITEM 2. PROPERTIES

 

Our corporate headquarters is located in leased property in Somers, New York. In addition, we have a total of 629 manufacturing and distribution facilities, as follows:

 

 

We also own or lease and operate approximately 38,300 vehicles, including delivery trucks, delivery and transport tractors and trailers and other trucks and vans used in the sale and distribution of our beverage products. We also own more than two million coolers, soft drink dispensing fountains and vending machines.

 

With a few exceptions, leases of plants in the U.S. & Canada are on a long-term basis, expiring at various times, with options to renew for additional periods. Our leased facilities in Europe and Mexico are generally leased for varying and usually shorter periods, with or without renewal options. We believe that our properties are in good operating condition and are adequate to serve our current operational needs.

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ITEM 3. LEGAL PROCEEDINGS

 

From time to time we are a party to various litigation proceedings arising in the ordinary course of our business, none of which, in the opinion of management, is likely to have a material adverse effect on our financial condition or results of operations.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

 

None.

 

Executive Officers of the Registrant

 

Executive officers are elected by our Board of Directors, and their terms of office continue until the next annual meeting of the Board or until their successors are elected and have been qualified. There are no family relationships among our executive officers.

 

Set forth below is information pertaining to our executive officers who held office as of February 15, 2008:

 

Eric J. Foss, 49, was appointed President and Chief Executive Officer and elected to our Board in July 2006. Previously, Mr. Foss served as our Chief Operating Officer from September 2005 to July 2006 and President of PBG North America from September 2001 to September 2005. Prior to that, Mr. Foss was the Executive Vice President and General Manager of PBG North America from August 2000 to September 2001. From October 1999 until August 2000, he served as our Senior Vice President, U.S. Sales and Field Operations, and prior to that, he was our Senior Vice President, Sales and Field Marketing, since March 1999. Mr. Foss joined the Pepsi-Cola Company in 1982 where he held a variety of field and headquarters-based sales, marketing and general management positions. From 1994 to 1996, Mr. Foss was General Manager of Pepsi-Cola North America’s Great West Business Unit. In 1996, Mr. Foss was named General Manager for the Central Europe Region for Pepsi-Cola International (“PCI”), a position he held until joining PBG in March 1999. Mr. Foss is also a director of UDR, Inc. and on the Industry Affairs Council of the Grocery Manufacturers of America.

 

Alfred H. Drewes, 52, was appointed Senior Vice President and Chief Financial Officer in June 2001. Mr. Drewes previously served as Senior Vice President and Chief Financial Officer of PCI. Mr. Drewes joined PepsiCo in 1982 as a financial analyst in New Jersey. During the next nine years, he rose through increasingly responsible finance positions within Pepsi-Cola North America in field operations and headquarters. In 1991, Mr. Drewes joined PCI as Vice President of Manufacturing Operations, with responsibility for the global concentrate supply organization. In 1994, he was appointed Vice President of Business Planning and New Business Development and, in 1996, relocated to London as the Vice President and Chief Financial Officer of the Europe and Sub-Saharan Africa Business Unit of PCI. Mr. Drewes is also a director of the Meredith Corporation.

 

Robert C. King, 49, was appointed President of PBG’s North American business in December 2006. Previously, Mr. King served as President of PBG’s North American Field Operations from October 2005 to December 2006. Prior to that, Mr. King served as Senior Vice President and General Manager of PBG’s Mid-Atlantic Business Unit from October 2002 to October 2005. From 2001 to October 2002, he served as Senior Vice President, National Sales and Field Marketing. In 1999, he was appointed Vice President, National Sales and Field Marketing. Mr. King joined Pepsi-Cola North America in 1989 as a Business Development Manager and has held a variety of other field and headquarters-based sales and general management positions.

 

Pablo Lagos, 52, was appointed President and General Manager of PBG Mexico in June 2006. Previously, Mr. Lagos served as Chief Operating Officer of PBG Mexico from October 2003 to June 2006. Prior to joining PBG Mexico, he served as Vice President of Sales and Operations for Sabritas, the Mexican salty snack food unit of Frito-Lay International (“FLI”) from 2002 to 2003. From 1996 to 2002, Mr. Lagos served as President of FLI in Chile and area Vice President Chile, Peru, Ecuador. In 1991 he joined the leadership team of FLI’s Gamesa business in Mexico, where he then served as Gamesa’s Vice President of Operations, and later served as National Sales Vice President. Mr. Lagos joined PCI in Latin America in 1983.

 

Yiannis Petrides, 49, is the President of PBG Europe. He was appointed to this position in June 2000, with responsibilities for our operations in Spain, Greece, Turkey and Russia. Prior to that, Mr. Petrides served as Business Unit General Manager for PBG in Spain and Greece. Mr. Petrides joined PepsiCo in 1987 in the international beverage division. In 1993, he was named General Manager of Frito-Lay’s Greek operation with additional responsibility for the Balkan countries. In 1995, Mr. Petrides was appointed Business Unit General Manager for Pepsi Beverages International’s bottling operation in Spain.

 

Steven M. Rapp, 54, was appointed Senior Vice President, General Counsel and Secretary in January 2005. Mr. Rapp previously served as Vice President, Deputy General Counsel and Assistant Secretary from 1999 through 2004. Mr. Rapp joined PepsiCo as a corporate attorney in 1986 and was appointed Division Counsel of Pepsi-Cola Company in 1994.

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ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

 

Our common stock is listed on the New York Stock Exchange under the symbol “PBG.” Our Class B common stock is not publicly traded. On February 15, 2008, the last sales price for our common stock on the New York Stock Exchange was $35.67 per share. The following table sets forth the high and low sales prices per share of our common stock during each of our fiscal quarters in 2007 and 2006.

 

 

 

Shareholders – As of February 15, 2008, there were approximately 61,435 registered and beneficial holders of our common stock. PepsiCo is the holder of all of our outstanding shares of Class B common stock.

 

Dividend Policy – Quarterly cash dividends are usually declared in late January or early February, March, July and October and paid at the end of March, June, and September and at the beginning of January. The dividend record dates for 2008 are expected to be March 7, June 6, September 5 and December 5.

 

We declared the following dividends on our common stock during fiscal years 2007 and 2006:

 

 

Performance Graph – The following performance graph compares the cumulative total return of our common stock to (i) the Standard & Poor’s 500 Stock Index, (ii) a new index of peer companies selected by us (the “New Bottling Group Index”) consisting of Coca-Cola Hellenic Bottling Company S.A., Coca-Cola Bottling Co. Consolidated, Coca-Cola Enterprises Inc., Coca-Cola FEMSA ADRs, and PepsiAmericas, Inc. and (iii) a previously used index of peer companies selected by us (the “Old Bottling Group Index”) consisting of Coca-Cola Amatil Limited, Coca-Cola Bottling Co. Consolidated, Coca-Cola Enterprises Inc., Coca-Cola FEMSA ADRs, and PepsiAmericas, Inc. We added Coca-Cola Hellenic Bottling Company S.A. to the New Bottling Group Index because sufficient shareholder return data is now available for this company and we removed Coca-Cola Amatil Limited because we no longer believe this company to be comparable to PBG in its overall business and operations. The graph assumes the return on $100 invested on December 27, 2002 until December 28, 2007. The returns of each member of the New Bottling Group Index and Old Bottling Group Index are weighted according to each member’s stock market capitalization as of the beginning of the period measured and includes the subsequent reinvestment of dividends.

 

 

13

 

PBG Purchases of Equity Securities – We repurchased approximately three million shares of PBG common stock in the fourth quarter of 2007 and approximately 13 million shares of PBG common stock during fiscal year 2007. Since the inception of our share repurchase program in October 1999 and through the end of fiscal year 2007, approximately 132 million shares of PBG common stock have been repurchased. Our share repurchases for the fourth quarter of 2007 are as follows:

 

 

 

Unless terminated by resolution of our Board, each share repurchase program expires when we have repurchased all shares authorized for repurchase thereunder.

14

ITEM 6. SELECTED FINANCIAL DATA

 

SELECTED FINANCIAL AND OPERATING DATA

in millions, except per share data

 

15

 

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

TABLE OF CONTENTS

 

MANAGEMENT’S FINANCIAL REVIEW

 

 

AUDITED CONSOLIDATED FINANCIAL STATEMENTS

 

 

MANAGEMENT’S FINANCIAL REVIEW

 

Tabular dollars in millions, except per share data

OUR BUSINESS

 

The Pepsi Bottling Group, Inc. is the world’s largest manufacturer, seller and distributor of Pepsi-Cola beverages. When used in these Consolidated Financial Statements, “PBG,” “we,” “our,” “us” and the “Company” each refers to The Pepsi Bottling Group, Inc. and, where appropriate, to Bottling Group, LLC (“Bottling LLC”), our principal operating subsidiary.

 

We have the exclusive right to manufacture, sell and distribute Pepsi-Cola beverages in all or a portion of the U.S., Mexico, Canada, Spain, Russia, Greece and Turkey. PBG manages and reports operating results through three reportable segments: U.S. & Canada, Europe (which includes Spain, Russia, Greece and Turkey) and Mexico. As shown in the graph below, the U.S. & Canada segment is the dominant driver of our results, generating 68% of our volume, 76% of our net revenues and 83% of our operating income.

 

 

The majority of our volume is derived from brands licensed from PepsiCo, Inc. (“PepsiCo”) or PepsiCo joint ventures. In some of our territories we have the right to manufacture, sell and distribute soft drink products of companies other than PepsiCo, including Dr Pepper and Squirt. We also have the right in some of our territories to manufacture, sell and distribute beverages under trademarks that we own. The fastest growing category of our business is non-carbonated beverages. Leading this category is bottled water where we have Aquafina, the number one brand in the U.S., Aqua Minerale, the number one brand in Russia, and Electropura, the number one water in Mexico. Adding to our strength in this category is Lipton Iced Tea the number one ready-to-drink tea in the U.S., Canada, Russia, Turkey and Greece. Our non-carbonated beverages portfolio also includes strong brands with Starbucks Frapuccino in the ready-to-drink coffee category, Mountain Dew Amp and SoBe Adrenaline Rush in the energy drink category and SoBe and Tropicana in the juice and juice drinks category. We continue to add to our powerful portfolio highlighted by our focus on Hydration with SoBe Life Water, Propel fitness water and G2 in the U.S. See Part I, Item 1 of this report for a listing of our principal products by segment.

 

We sell our products through either a cold-drink or take-home channel. Our cold-drink channel consists of chilled products sold in the retail and foodservice channels. We earn the highest profit margins on a per-case basis in the cold-drink channel. Our take-home channel consists of unchilled products that are sold in the retail, mass merchandiser and club store channels for at-home consumption.

 

Our products are brought to market primarily through direct store delivery (“DSD”) or third-party distribution, including foodservice and vending distribution networks. The hallmarks of PBG’s DSD system are speed to market, flexibility and reach, all critical factors in bringing new products to market, adding accounts to our existing base and meeting increasing volume demands.

 

Our customers range from large format accounts, including large chain foodstores, supercenters, mass merchandisers, chain drug

16

stores, club stores and military bases to small independently owned shops and foodservice businesses. Changing consumer shopping trends and “on-the-go” lifestyles are shifting more of our volume to fast-growing channels such as supercenters, club and dollar stores and restaurants and other fountain accounts. Retail consolidation continues to increase the importance of our large-volume customers. In 2007, sales to our top five retail customers represented approximately 19 percent of our net revenues.

 

Our goal is to help our customers grow their beverage business by making our portfolio of brands readily available to consumers at every shopping occasion, using proven methods to grow not only PepsiCo brand sales, but the overall beverage category. Our objective is to ensure we have the right product in the right package to fill the needs of consumers.

 

Our sales force sells and delivers more than 200 million eight-ounce servings worldwide of Pepsi-Cola brand beverages per day. PBG’s focus is on superior sales execution, customer service, merchandising and operating excellence.

 

We measure our sales in terms of physical cases sold to our customers. Each package, as sold to our customers, regardless of configuration or number of units within a package, represents one physical case. Our net price and gross margin on a per-case basis are impacted by how much we charge for the product, the mix of brands and packages we sell, and the channels in which the product is sold. For example, we realize a higher net revenue and gross margin per case on a 20-ounce chilled bottle sold in a convenience store than on a 2-liter unchilled bottle sold in a grocery store.

 

Our financial success is dependent on a number of factors, including: our strong partnership with PepsiCo, the customer relationships we cultivate, the pricing we achieve in the marketplace, our market execution, our ability to meet changing consumer preferences and the efficiency we achieve in manufacturing and distributing our products. Key indicators of our financial success are: the number of physical cases we sell, the net price and gross margin we achieve on a per-case basis, and our overall cost productivity, which reflects how well we manage our raw material, manufacturing, distribution and other overhead costs.

 

The discussion and analysis throughout Management’s Financial Review should be read in conjunction with the Consolidated Financial Statements and the related accompanying notes. Management’s Discussion and Analysis of Financial Condition and Results of Operations reflects the classification correction discussed in Note 1 in the Notes to Consolidated Financial Statements. The preparation of our Consolidated Financial Statements in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”) requires us to make estimates and assumptions that affect the reported amounts in our Consolidated Financial Statements and the related accompanying notes, including various claims and contingencies related to lawsuits, taxes, environmental and other matters arising out of the normal course of business. We use our best judgment, our knowledge of existing facts and circumstances and actions that we may undertake in the future, in determining the estimates that affect our Consolidated Financial Statements.

OUR CRITICAL ACCOUNTING POLICIES

 

The preparation of our consolidated financial statements in conformity with U.S. GAAP often requires management to make judgments, estimates and assumptions that affect a number of amounts included in our financial statements and related disclosures. We have chosen accounting policies that we believe are appropriate to report accurately and fairly our operating results and financial position and have based our estimates on historical experience and other assumptions that we believe are reasonable. Actual results may differ from these estimates.

 

Significant accounting policies are discussed in Note 2 in the Notes to Consolidated Financial Statements. Management believes the following policies to be the most critical to the portrayal of PBG’s financial condition and results of operations and require the use of estimates, assumptions and the application of judgment. We applied our critical accounting policies and estimation methods consistently in all material respects and have discussed the selection of these policies and related disclosures with the Audit and Affiliated Transactions Committee of our Board of Directors.

 

Other Intangible Assets, Net and Goodwill

 

Our intangible assets principally arise from the allocation of the purchase price of businesses acquired and consist primarily of franchise rights, distribution rights, brands and goodwill. These intangible assets, other than goodwill, may represent finite-lived intangibles and indefinite-lived intangibles. Intangible assets that are determined to have a finite life are amortized over the expected useful life, which generally ranges from five to twenty years. For intangible assets with finite lives, evaluations for impairment are performed only if facts and circumstances indicate that the carrying value may not be recoverable. Goodwill and intangible assets with indefinite lives are not amortized, however, they are evaluated for impairment at least annually or more frequently if facts and circumstances indicate that the assets may be impaired.

 

The classification of intangibles and the determination of the appropriate life requires substantial judgment. In determining whether our intangible assets have an indefinite useful life, we consider the following as applicable: the nature and terms of the underlying agreements; our intent and ability to use the specific asset; the age and market position of the related products within the territories we are entitled to sell; the historical and projected growth

17

of those products; and the ability and costs, if any, to renew the agreement.

 

We evaluate goodwill for impairment at a reporting unit level, which we determined to be the countries in which we operate. We evaluate goodwill for impairment by comparing the fair value of the reporting unit, as determined by its discounted cash flows, with its carrying value. If the carrying value of a reporting unit exceeds its fair value, we compare the implied fair value of the reporting unit’s goodwill with its carrying amount to measure the amount of impairment loss.

 

We evaluate intangible assets with indefinite useful lives for impairment by comparing the estimated fair values with the carrying values. The fair value of our franchise rights and distribution rights is measured using a multi-period excess earnings method that is based upon estimated discounted future cash flows. The fair value of our brands is measured using a multi-period royalty savings method, which reflects the savings realized by owning the brand and, therefore, not having to pay a royalty fee to a third party.

 

Considerable management judgment is necessary to estimate discounted future cash flows in conducting an impairment analysis for goodwill and other intangible assets, which may be impacted by future actions taken by us and our competitors and the volatility in the markets in which we conduct business. Assumptions used in our impairment analysis, such as forecasted growth rates, cost of capital and additional risk premiums used in the valuations, are based on the best available market information and are consistent with our long-term strategic plans.

 

An inability to achieve strategic business plan targets in a reporting unit, a change in our discount rate or other assumptions within our cash flow models could have a significant impact on the fair value of our reporting units and other intangible assets, which could then result in a material non-cash impairment charge to our results of operations. We did not recognize any impairment charges for goodwill or other intangible assets in the years presented. We have approximately $1 billion of goodwill and other intangible assets on our Consolidated Balance Sheet related to our Mexico segment. Our business in Mexico has performed below expectations and we did not meet our profit objectives in 2007. A non-cash impairment charge could be required in the future if we do not achieve our long-term expected results. We have initiated an extensive strategic review which will allow us to assess our Mexico business by brand, package, channel and geography. We will continue to closely monitor our performance in Mexico and evaluate the realizability of each intangible asset. For further information about our goodwill and other intangible assets see Note 6 in the Notes to Consolidated Financial Statements.

 

Pension and Postretirement Medical Benefit Plans

 

We sponsor pension and other postretirement medical benefit plans in various forms in the United States and similar pension plans in our international locations, covering employees who meet specified eligibility requirements.

 

The assets, liabilities and expenses associated with our international plans were not significant to our worldwide results of operations, and accordingly, assumptions, expenses, sensitivity analyses and other data regarding these plans are not included in any of the discussions provided below.

 

Our U.S. employees that were hired prior to January 1, 2007 participate in non-contributory defined benefit pension plans, which cover substantially all full-time salaried employees, as well as most hourly employees. Benefits are generally based on years of service and compensation, or stated amounts for each year of service. Effective January 1, 2007, newly hired salaried and non-union hourly employees are not eligible to participate in these plans. Substantially all of our U.S. employees, if they meet age and service requirements and qualify for retirement benefits, are eligible to participate in our postretirement medical benefit plans.

 

Assumptions

Statement of Financial Accounting Standards (“SFAS”) 158, “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans,” (“SFAS 158”) requires that, beginning in our fiscal year 2008, our assumptions used to measure plan assets and benefit obligations be determined as of the balance sheet date (Measurement Date). The standard provides two transition alternatives related to the change in Measurement Date. PBG will use the “two-measurement” approach in adopting the Measurement Date provision of SFAS 158 in 2008. Accordingly, our 2008 expense is measured with a discount rate as of the last day of our 2007 fiscal year. For further information regarding SFAS 158 see Note 2 in the Notes to Consolidated Financial Statements.

 

The assumptions used to measure our pension and postretirement medical expenses for fiscal years 2007, 2006 and 2005 were determined as of September 30 of each of the prior years. All plan assets and liabilities reported in our December 29, 2007 and December 30, 2006 Consolidated Balance Sheets were determined as of September 30 of each respective year.

 

The determination of pension and postretirement medical plan obligations and related expenses requires the use of assumptions to estimate the amount of benefits that employees earn while working, as well as the present value of those benefit obligations. Significant assumptions include discount rate; expected return on plan assets; certain employee-related factors such as retirement age, mortality, and turnover; rate of salary increases for plans where benefits are

18

based on earnings; and for retiree medical plans, health care cost trend rates.

 

We evaluate these assumptions on an annual basis and we believe that they are appropriate. Our assumptions are based upon historical experience of the plans and management’s best judgment regarding future expectations. These assumptions may differ materially from actual results due to changing market and economic conditions. An increase or decrease in the assumptions or economic events outside our control could have a material impact on the measurement of our pension and postretirement medical benefit expenses and obligations as well as related funding requirements.

 

The discount rates used in calculating the present value of our pension and postretirement medical benefit plan obligations are developed based on a yield curve that is comprised of high-quality, non-callable bonds whose maturities match the timing of our expected benefit payments. These bonds are rated Aa or better by Moody’s, have a principal amount of at least $250 million, are denominated in U.S. dollars and have maturity dates ranging from six months to thirty years.

 

In evaluating the expected rate of return on pension plan assets, we consider the actual 10 to 15-year historical returns on asset classes in the U.S. pension plans’ investment portfolio, reflecting the weighted-average return of our asset allocation and use them as a guide for future returns. Our current investment target asset allocation for our U.S. pension plans is 75 percent equity investments, of which approximately 80 percent is invested in domestic equities and 20 percent is invested in foreign equities. The remaining 25 percent of plan assets is invested primarily in fixed income securities, which is equally divided between U.S. government and corporate bonds. The current portfolio’s target asset allocation for the 10 and 15-year periods had weighted average returns of 7.03 percent and 9.80 percent, respectively. Over time, the expected rate of return on pension plan assets should approximate the actual long-term returns. Based on the historical and estimated future returns of the pension plans’ portfolio, we estimate the long-term rate of return on assets for pension plans to be 8.50 percent in 2008. We use a market-related value method that recognizes each year’s asset gain or loss over a five-year period. Therefore, it takes five years for the gain or loss from any one year to be fully included in the other gains and losses calculation described below.

 

Other gains and losses resulting from changes in actuarial assumptions and from differences between assumed and actual experience are also determined at each measurement. To the extent the amount of all unrecognized gains and losses exceeds 10 percent of the larger of the benefit obligation or plan assets, such amount is amortized over the average remaining service period of active participants. Net unrecognized losses, within our pension and postretirement plans in the United States, totaled $398 million and $558 million at December 29, 2007 and December 30, 2006, respectively.

 

The cost or benefit of plan changes is deferred and included in expense on a straight-line basis over the average remaining service period of the employees expected to receive benefits.

 

The following tables provide the weighted-average assumptions for our 2008 and 2007 pension and postretirement medical plans’ expense:

 

 

 

During 2007, excluding charges of approximately $4 million associated with restructuring actions, our ongoing Company-sponsored defined benefit pension and postretirement medical plan expenses totaled $117 million. In 2008, our ongoing expenses will decrease by approximately $30 million to $87 million as a result of the combination of the following factors:

 

 

Sensitivity Analysis

It is unlikely that in any given year the actual rate of return will be the same as the assumed long-term rate of return of 8.50 percent. The following table provides a summary of the last three years of

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actual returns versus the expected long-term returns for our pension plans:

 

 

Sensitivity of changes in key assumptions for our pension and postretirement plans’ expense in 2008 are as follows:

 

 

For further information about our pension and postretirement plans see Note 10 in the Notes to Consolidated Financial Statements.

 

Casualty Insurance Costs

 

Due to the nature of our business, we require insurance coverage for certain casualty risks. In the United States, we use a combination of insurance and self-insurance mechanisms, including a wholly owned captive insurance entity. This captive entity participates in a reinsurance pool for a portion of our workers’ compensation risk. We provide self-insurance for the workers’ compensation risk retained by the Company and automobile risks up to $10 million per occurrence, and product and general liability risks up to $5 million per occurrence. For losses exceeding these self-insurance thresholds, we purchase casualty insurance from third-party providers.

 

Our liability for casualty costs is estimated using individual case-based valuations and statistical analyses and is based upon historical experience, actuarial assumptions and professional judgment. We do not discount our loss expense reserves. These estimates are subject to the effects of trends in loss severity and frequency and are subject to a significant degree of inherent variability. We evaluate these estimates periodically during the year and we believe that they are appropriate; however, an increase or decrease in the estimates or events outside our control could have a material impact on reported net income. Accordingly, the ultimate settlement of these costs may vary significantly from the estimates included in our financial statements. For further information about our casualty insurance costs see Note 2 in the Notes to Consolidated Financial Statements.

 

Income Taxes

 

Our effective tax rate is based on pre-tax income, statutory tax rates, tax laws and regulations and tax planning strategies available to us in the various jurisdictions in which we operate. Significant management judgment is required in determining our effective tax rate and in evaluating our tax positions.

 

As of the beginning of our 2007 fiscal year, we adopted the provisions of FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (“FIN 48”), which provides specific guidance on the financial statement recognition, measurement, reporting and disclosure of uncertain tax positions taken or expected to be taken in a tax return. We recognize the impact of our tax positions in our financial statements if those positions will more likely than not be sustained on audit, based on the technical merits of the position. A change in our tax positions could have a significant impact on our results of operations.

 

Our deferred tax assets and liabilities reflect our best estimate of the tax benefits and costs we expect to realize in the future. We establish valuation allowances to reduce our deferred tax assets to an amount that will more likely than not be realized.

 

The U.S. Internal Revenue Service (“IRS”) is currently examining PBG’s and PepsiCo’s joint tax returns for 1998 through March 1999. We have a tax separation agreement with PepsiCo, which among other provisions, specifies that PepsiCo maintain full control and absolute discretion for any combined or consolidated tax filings for tax periods ended on or before our initial public offering that occurred in March 1999. However, PepsiCo may not settle any issue without our written consent, which consent cannot be unreasonably withheld. PepsiCo has contractually agreed to act in good faith with respect to all tax examination matters affecting us. In accordance with the tax separation agreement, we will bear our allocable share of any cost or benefit resulting from the settlement of tax matters affecting us for these tax periods.

 

A number of years may elapse before an uncertain tax position for which we have established a tax reserve is audited and finally resolved. The number of years for which we have audits that are open varies depending on the tax jurisdiction. The statute of limitations for the IRS audit of PBG’s 2001 and 2002 tax returns closed on June 30, 2007 and as a result, we released approximately $46 million in reserves for uncertain tax benefits relating to such audit. The IRS is currently examining PBG’s tax returns for the 2003-2005 tax years. While it is often difficult to predict the final outcome or the timing of the resolution of an audit, we believe that our reserves for uncertain tax benefits reflect the outcome of tax positions that is more likely than not to occur. The resolution of a matter could be recognized as an adjustment to our provision for income taxes and our effective tax rate in the period of resolution, and may also require a use of cash.

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For further information about our income taxes see Note 11 in the Notes to Consolidated Financial Statements.

OUR RELATIONSHIP WITH PEPSICO

 

PepsiCo is a related party due to the nature of our franchise relationship and its ownership interest in our company. More than 80 percent of our volume is derived from the sale of brands from PepsiCo. At December 29, 2007, PepsiCo owned approximately 35.2 percent of our outstanding common stock and 100 percent of our outstanding class B common stock, together representing approximately 41.7 percent of the voting power of all classes of our voting stock. In addition, at December 29, 2007, PepsiCo owned 6.7 percent of the equity of Bottling LLC. We fully consolidate the results of Bottling LLC and present PepsiCo’s share as minority interest in our Consolidated Financial Statements.

 

On March 1, 2007, together with PepsiCo we formed PR Beverages Limited (“PR Beverages”), a venture that will enable us to strategically invest in Russia to accelerate our growth. PBG contributed its business in Russia to PR Beverages, and PepsiCo entered into bottling agreements with PR Beverages for PepsiCo beverage products sold in Russia on the same terms as in effect for PBG immediately prior to the venture. PepsiCo also granted PR Beverages an exclusive license to manufacture and sell the concentrate for such products.

 

We fully consolidate PR Beverages into our financial statements and record minority interest expense for PepsiCo’s 40 percent share of the venture’s net income. Increases in gross profit and operating income resulting from the consolidation of the venture are offset by minority interest expense related to PepsiCo’s share. Minority interest expense is recorded below operating income. For further information about PR Beverages see Note 6 in the Notes to Consolidated Financial Statements.

 

Our business is conducted primarily under beverage agreements with PepsiCo, including a master bottling agreement, non-cola bottling agreements, distribution agreements and a master syrup agreement. These agreements provide PepsiCo with the ability, at its sole discretion, to establish prices, and other terms and conditions for our purchase of concentrates and finished products from PepsiCo. PepsiCo provides us with bottler funding to support a variety of trade and consumer programs, such as consumer incentives, advertising support, new product support and vending and cooler equipment placement. The nature and type of programs, as well as the level of funding, vary annually. Additionally, under a shared services agreement, we obtain various services from PepsiCo, which include services for information technology maintenance and the procurement of raw materials. We also provide services to PepsiCo, including facility and credit and collection support.

 

Because we depend on PepsiCo to provide us with concentrate which we use in the production of carbonated soft drinks and non-carbonated beverages, bottler incentives and various services, changes in our relationship with PepsiCo could have a material adverse effect on our business and financial results.

 

For further information about our relationship with PepsiCo and its affiliates see Note 13 in the Notes to Consolidated Financial Statements.

 

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ITEMS AFFECTING COMPARABILITY OF OUR FINANCIAL RESULTS

 

Certain reclassifications were made to the prior years’ Consolidated Financial Statements to conform to the current year presentation, including a classification correction for certain miscellaneous costs incurred from product losses in the trade. Approximately $90 million and $92 million of costs incurred, which were incorrectly included in selling, delivery and administrative expenses, were reclassified to cost of sales in our Consolidated Statements of Operations for the years ended 2006 and 2005, respectively.

 

The year-over-year comparisons of our financial results are affected by the following items included in our reported results:

 

 

2007 Items

 

PR Beverages

For further information about PR Beverages see “Our Relationship with PepsiCo.”

 

Restructuring Charges

 

Organizational Realignment – In the third quarter of 2007, we announced a restructuring program to realign the Company’s organization to adapt to changes in the marketplace, improve operating efficiencies and enhance the growth potential of the Co mpany’s product portfolio. We anticipate the program to be substantially complete by the end of the first quarter of 2008. As part of the Organizational Realignment we reduced the number of business units in the U.S. & Canada from eight to six to centralize decision making and increase speed to market, resulting in the elimination of approximately 200 positions. The restructuring program also resulted in the elimination of approximately 650 positions in Mexico and Europe, many of which were hourly frontline positions in warehouse and production. In connection with the elimination of positions primarily in Mexico, we made approximately $4 million of employee benefit payments pursuant to existing unfunded termination indemnity plans. These benefit payments have been accrued for in previous periods and, therefore, are not included in our estimated cost for this program. We expect to recognize annual cost savings of approximately $30 million as a result of the program.

 

The Organizational Realignment is expected to cost $30 to $35 million over the course of the program, which is primarily for severance, relocation and other employee-related benefits. As of December 29, 2007, we had eliminated approximately 800 positions across all reporting segments and incurred a pre-tax charge of approximately $26 million, which was recorded in selling, delivery, and administrative expenses. The remaining costs are expected to be incurred in the first quarter of 2008.

 

Substantially all costs associated with the Organizational Realignment required cash payments in 2007 or will require cash payments in 2008. The total after-tax cash expenditures, including payments made pursuant to existing unfunded indemnity plans, are expected to be approximately $26 million, of which $14 million was recognized in 2007, with the balance to occur in 2008.

 

Other Restructuring Charges – In the fourth quarter of 2007, we implemented and completed an additional phase of restructuring actions to improve operating efficiencies. In addition to the amounts discussed above, we recorded a pre-tax charge of approximately $4 million in selling, delivery and administrative expenses, primarily related to employee termination costs in Mexico, and eliminated an additional 800 positions as a result of this phase of the restructuring. We expect to recognize annual cost savings of approximately $7 million.

 

Full Service Vending Rationalization

Due to changing customer and consumer demands we evaluated the investment returns on our Full Service Vending (“FSV”) business in the U.S. and Canada. Our FSV business portfolio consists of accounts whereby PBG stocks and services vending equipment. Our review identified opportunity to improve our return on these assets. On October 1, 2007, we adopted a FSV Rationalization plan, which we expect to complete by the end of the second quarter of 2008, to rationalize our vending asset base by disposing of older underperforming assets and redeploying certain assets to higher

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return accounts. This action is part of the Company’s broader initiative designed to improve operating income margins of our FSV business.

 

Over the course of the FSV Rationalization plan, we will incur a pre-tax charge of $30 to $35 million, the majority of which is non-cash, including costs associated with the removal of these assets from service, disposal costs and redeployment expenses.

 

During the fourth quarter of 2007 we incurred a pre-tax charge of approximately $23 million in connection with this action. The pre-tax charge, the majority of which is non-cash, is recorded in selling, delivery and administrative expenses.

 

For further information about our restructuring charges and FSV Rationalization see Note 14 in the Notes to Consolidated Financial Statements.

 

Tax Audit Settlement

During the third quarter of 2007, PBG recorded a net non-cash benefit of approximately $46 million to income tax expense related to the reversal of reserves for uncertain tax benefits resulting from the expiration of the statute of limitations on the IRS audit of our U.S. 2001 and 2002 tax returns.

 

Tax Law Changes

During 2007, tax law changes were enacted in Canada and Mexico, which required us to re-measure our deferred tax assets and liabilities. The impact of the reduction in tax rates in Canada was partially offset by the tax law changes in Mexico which decreased our income tax expense on a net basis. After the impact of minority interest, net income increased approximately $10 million as a result of these tax law changes. For further information see our 2007 Income Tax Expense discussion below.

 

2006 Items

 

Tax Law Changes

During 2006, tax law changes were enacted in Canada, Turkey and in various state jurisdictions in the U.S. which decreased our income tax expense. After the impact of minority interest, net income increased by approximately $10 million as a result of these tax law changes. For further information see our 2006 Income Tax Expense discussion below.

 

Tax Audit Settlement

During the fourth quarter of 2006, PBG recorded a tax gain from the reversal of approximately $55 million of tax contingency reserves. These reserves, which related to the IRS audit of PBG’s 1999-2000 income tax returns, resulted from the expiration of the statute of limitations for this IRS audit on December 30, 2006.

 

2005 Items

 

High Fructose Corn Syrup (“HFCS”) Litigation Settlement

Included in our selling, delivery and administrative expenses for 2005 was a pre-tax gain of $29 million in the U.S. from the settlement of the HFCS class action lawsuit. The lawsuit related to purchases of high fructose corn syrup by several companies, including bottling entities owned and operated by PepsiCo, during the period from July 1, 1991 to June 30, 1995 (the “Claims Period”). Certain of the bottling entities owned by PepsiCo during the Claims Period were transferred to PBG when PepsiCo formed PBG in 1999. With respect to these entities, which we currently operate, we received $23 million in HFCS settlement proceeds. We received an additional $6 million in HFCS settlement proceeds related to bottling operations not previously owned by PepsiCo, such as manufacturing co-operatives of which we are a member.

 

53rd Week

Our fiscal year ends on the last Saturday in December and, as a result, a 53rd week is added every five or six years. Fiscal years 2007 and 2006 consisted of 52 weeks. In 2005, our fiscal year consisted of 53 weeks. Our 2005 results included pre-tax income of approximately $19 million due to the 53rd week, which increased our operating income by $24 million offset by additional interest expense of $5 million.

 

Strategic Spending Initiatives

We reinvested both the pre-tax gain of $29 million from the HFCS settlement and the pre-tax income of $19 million from the 53rd week in long-term strategic spending initiatives in the U.S., Canada and Europe. The strategic spending initiatives, which were recorded in selling, delivery and administrative expenses, included programs designed primarily to enhance our customer service agenda, drive productivity and improve our management information systems.

FINANCIAL PERFORMANCE SUMMARY AND WORLDWIDE FINANCIAL HIGHLIGHTS FOR FISCAL YEAR 2007

 

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The impact of foreign currency translation, driven by the strength of the Canadian Dollar, the Euro, the Turkish Lira and the Russian Ruble, contributed approximately two percentage points of growth in worldwide net revenues, cost of sales, gross profit, and selling, delivery and administrative expenses, and contributed approximately one percentage point of growth in worldwide operating income.

 

Net revenues – Growth of seven percent driven primarily by rate increases across all segments.

 

Cost of sales – Increase of seven percent primarily attributable to higher raw material and concentrate costs.

 

Gross profit – Growth of seven percent reflected successful pricing actions which offset higher raw material and concentrate costs. Consolidation of PR Beverages contributed less than one percentage point to this growth.

 

SD&A expenses – Increase of seven percent driven primarily by higher operating expenses, specifically in Mexico and Russia and strategic spending initiatives in the U.S. & Canada segment for Hydration. The restructuring charges and FSV Rationalization plan contributed approximately one percentage point to the increase. Increases in SD&A expenses were mitigated by cost productivity improvements and disciplined cost management, primarily in the U.S.

 

Operating income – Growth of five percent due to strong gross profit, partially offset by an increase in SD&A expenses. Operating income growth benefited by three percentage points from the accounting for the consolidation of PR Beverages in our financial results. The restructuring charges and the FSV Rationalization plan decreased operating income growth by five percentage points.

 

Net income and Diluted Earnings per Share – Growth of two percent reflected strong worldwide operating income, partially offset by the year-over-year comparability of tax items. Growth in net income, coupled with additional share repurchases increased diluted earnings per share by six percent.

RESULTS OF OPERATIONS

 

Except where noted, tables and discussion are presented as compared to the prior fiscal year. Growth rates are rounded to the nearest whole percentage.

 

Volume

 

2007 vs. 2006

 

 

Our worldwide physical case volume increased one percent, driven primarily by the Bebidas Purificadas, S.A. de C.V. (“Bepusa”) acquisition in Mexico in June of 2006 and growth in our Europe segment, most notably in Russia, partially offset by a decrease of two percent in Mexico’s base business volume.

 

In our U.S. & Canada segment, volume was unchanged, driven primarily by flat volume in the U.S. Our performance in the U.S. reflected growth in the take-home channel of approximately one percent, driven primarily by growth in supercenters, wholesale clubs and mass merchandisers. This growth was offset by a decline of three percent in the cold-drink channel, as a result of declines in our small format and foodservice channels. From a brand perspective, our U.S. non-carbonated portfolio increased six percent, reflecting significant increases in Trademark Lipton and water coupled with strong growth in energy drinks. The growth in our U.S. non-carbonated portfolio was offset by declines in our carbonated soft drink (“CSD”) portfolio of three percent, driven primarily by declines in Trademark Pepsi.

 

In Canada, volume grew two percent, driven primarily by three-percent growth in the cold-drink channel and two-percent growth in the take-home channel. From a brand perspective, our non-carbonated portfolio increased 13 percent, reflecting a 12-percent increase in Trademark Lipton and a five-percent increase in water.

 

In our Europe segment, overall volume grew four percent. This growth was driven primarily by 17-percent growth in Russia, partially offset by declines of eight percent in Spain and two percent in Turkey. Volume increases in Russia were strong in all channels, led by growth of 40 percent in our non-carbonated portfolio.

 

In our Mexico segment, overall volume increased one percent, driven primarily by the Bepusa acquisition, partially offset by a decrease of two percent in base business volume. This decrease was primarily attributable to four-percent declines in both CSD and jug water volumes, mitigated by nine-percent growth in bottled water and greater than 40-percent growth in non-carbonated beverages.

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2006 vs. 2005

 

 

Our full-year reported worldwide physical case volume increased three percent. Worldwide volume growth reflects increases across all segments.

 

In the U.S. & Canada, volume growth, excluding the impact from acquisitions and the impact of the 53rd week in 2005, was fueled by strong brand performance across non-carbonated beverages, innovation and our ability to capture the growth in emerging channels such as Club and Dollar stores.

 

In the U.S., volume increased three percent due mainly to a three-percent increase in base business volume and a one-percent increase from acquisitions that was offset by the impact of the 53rd week in 2005. Base business volume growth was driven by a strong increase in both water and other non-carbonated beverages, fueled by outstanding growth in Lipton Iced Tea and energy drinks. Our total CSD portfolio decreased about one percent, mostly driven by declines in Trademark Pepsi. Our flavored CSD portfolio increased about two percent due to growth in Trademark Mountain Dew. From a channel perspective, growth in the U.S. was driven by a four-percent increase in our take-home channel as a result of increases in Club and Dollar stores as well as mass retailers and drug stores, and a two-percent increase in our cold-drink channel. Cold-drink growth was driven by strong results in the foodservice channel and in the convenience and gas channel.

 

In Canada, volume increased about one percent, primarily driven by a two-percent increase in base business and partially offset by the impact of the 53rd week in 2005. Base business growth was primarily driven by strong growth in both water and other non-carbonated beverages.

 

In Europe, volume grew seven percent, driven by significant increases in Russia and Turkey. Solid growth in our non-carbonated portfolio, including bottled water and Lipton Iced Tea, Trademark Pepsi and local brands helped drive overall growth in these countries.

 

In Mexico, excluding the impact of acquisitions, volume increased one percent, mainly as a result of growth in bottled water and other non-carbonated beverages and partially offset by declines in jug water and CSD volume.

 

Net Revenues

 

2007 vs. 2006

 

 

Worldwide net revenues were $13.6 billion in 2007, a seven-percent increase over the prior year. The increase was driven primarily by strong increases in net price per case across all segments as a result of rate gains. The positive impact of foreign currency translation in Canada and Europe also contributed to the overall increase in net revenues for the year.

 

In our U.S. & Canada segment, four-percent growth in net revenues was driven mainly by increases in net price per case as a result of rate gains. The favorable impact of Canada’s foreign currency translation added slightly less than one-percentage point of growth to the segment’s four-percent increase. In the U.S., we achieved revenue growth as a result of a net price per case improvement of four percent.

 

In our Europe segment, 22-percent growth in net revenues reflected exceptionally strong increases in net price per case, strong volume growth in Russia and the positive impact of foreign currency translation. Growth in net revenues in Europe was mainly driven by a 44-percent increase in Russia.

 

In our Mexico segment, eight-percent growth in net revenues reflected strong increases in net price per case, and the impact of the Bepusa acquisition, partially offset by declines in base business volume.

 

2006 vs. 2005

 

 

Worldwide net revenues were $12.7 billion in 2006, a seven-percent increase over the prior year. The increase in net revenues for the year was driven primarily by strong volume growth and solid increases in net price per case across all segments, coupled with the impact of acquisitions in the U.S. and Mexico and the favorable impact from foreign currency translation in Canada. This growth was partially offset by the impact of the 53rd week in 2005 in our

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U.S. & Canada segment. Increases in net price per case were primarily driven by rate improvements across all segments.

 

In the U.S. & Canada, six-percent growth in net revenues was consistent with worldwide trends. In the U.S., we achieved revenue growth of five percent with three-percent volume growth due primarily to base business volume increases in water and non-carbonated beverages. Net price per case in the U.S. increased by three percent mainly due to rate increases. In Canada, revenue growth of 12 percent was driven primarily by the favorable impact of foreign currency translation, coupled with a three-percent increase in net price per case and volume improvements of one percent.

 

Net revenues in Europe increased 12 percent, driven primarily by significant volume growth in Russia and Turkey and strong increases in net price per case primarily as a result of rate increases.

 

In Mexico, net revenues increased nine percent mostly due to strong increases in net price per case as a result of rate increases and the impact of acquisitions, coupled with positive volume growth.

 

Cost of Sales

 

2007 vs. 2006

 

 

Worldwide cost of sales was $7.4 billion in 2007, a seven-percent increase over the prior year. The growth in cost of sales across all segments was mainly due to cost per case increases resulting from higher raw material and concentrate costs, coupled with the negative impact of foreign currency translation.

 

In our U.S. & Canada segment, five-percent growth in cost of sales mainly reflected cost per case increases resulting from higher concentrate and sweetener costs, coupled with a one-percentage point negative impact from foreign currency translation.

 

In our Europe segment, a 16-percent increase in cost of sales reflected a nine-percentage point impact from foreign currency translation, cost per case increases resulting from higher raw material costs, a shift in package mix and strong volume growth. These increases were partially offset by a three-percentage point impact from consolidating PR Beverages in our financial results. For further information about PR Beverages see Note 2 in the Notes to Consolidated Financial Statements.

 

In our Mexico segment, cost of sales increased nine percent, reflecting cost per case increases as a result of significant increases in sweetener costs, coupled with the impact from the Bepusa acquisition in the prior year and partially offset by base volume declines.

 

2006 vs. 2005

 

 

Worldwide cost of sales was $6.9 billion in 2006, a nine-percent increase over 2005. The growth in cost of sales across all of our segments was driven by cost per case increases and volume growth. Worldwide cost-per-case increases were driven primarily by increases in raw material costs and the impact of package mix. Changes in our package mix were driven by faster volume growth in higher cost non-carbonated products. The impact of acquisitions in the U.S. and Mexico and the negative impact of foreign currency translation in Canada each contributed about one percentage point of growth to our worldwide increase, which was partially offset by the impact of the 53rd week in the prior year in our U.S. & Canada segment.

 

Selling, Delivery and Administrative Expenses

 

2007 vs. 2006

 

 

Worldwide SD&A expenses were $5.2 billion in 2007, a seven-percent increase over the prior year. Increases in worldwide SD&A expenses reflect higher operating expenses, specifically in Mexico and Russia, strategic spending initiatives primarily in the U.S. related to Hydration and the impact of foreign currency translation. Additionally, the restructuring charges and FSV Rationalization plan added a one-percentage point increase to growth in SD&A expenses. These increases were partially offset by cost productivity improvements and disciplined cost management, especially in the U.S.

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2006 vs. 2005

 

 

Worldwide SD&A expenses were $4.8 billion, a seven-percent increase over 2005. This increase was driven by volume growth and higher wage and benefit costs across all of our segments, increased pension expense in the U.S and planned spending as a result of investment in high-growth European markets. Additionally, the prior year combined impact from the strategic spending initiatives and the additional expenses from the 53rd week in our U.S. & Canada segment, partially offset by the pre-tax gain in the U.S. from the HFCS settlement decreased our worldwide SD&A growth in 2006 by approximately one percentage point.

 

Effective January 1, 2006, the Company adopted SFAS No. 123 (revised), “Share-Based Payment” (“SFAS 123R”). Among its provisions, SFAS 123R requires the Company to recognize compensation expense for equity awards over the vesting period based on the award’s grant-date fair value. The impact from the adoption of SFAS 123R in 2006 contributed approximately one percentage point of growth to our worldwide increase in SD&A expenses.

 

Operating Income

 

2007 vs. 2006

 

Worldwide operating income was $1.1 billion in 2007, a five-percent increase over the prior year. The increase was driven by strong results in the U.S. & Canada and Europe segments and partially offset by a decline in our Mexico segment. This increase was partially offset by a two-percentage point impact from the restructuring charges and FSV Rationalization plan, net of the impact from the accounting for the consolidation of PR Beverages.

 

In our U.S. & Canada segment, two-percent growth in operating income was a result of strong gross profit improvement, coupled with cost productivity improvements. These improvements were partially offset by both a five-percentage point impact from the Organizational Realignment program and the FSV Rationalization plan as well as higher SD&A expenses. Higher SD&A expenses were partially attributable to strategic initiatives in connection with Hydration.

 

In our Europe segment, operating income increased 86 percent, reflecting the positive impact from the consolidation of PR Beverages in our financial results, strong increases in net price per case, cost productivity improvements and the impact of foreign currency translation. This growth was partially offset by costs associated with the Organizational Realignment program.

 

In our Mexico segment, operating income decreased 13 percent as a result of declines in base business volume, significant increases in sweetener costs, and higher SD&A expenses, including a four-percentage point impact from restructuring charges incurred in the fourth quarter.

 

2006 vs. 2005

 

Worldwide operating income was down less than one percent as a result of the six-percentage point negative impact from the adoption of SFAS 123R. All of our segments had strong net gross profit.

 

In our U.S. & Canada segment, operating income was down five percent as a result of the six-percentage point negative impact from the adoption of SFAS 123R. Additionally, the prior year combined impact from the pre-tax gain in the U.S. from the HFCS settlement and the additional income from the 53rd week, partially offset by the prior year strategic spending initiatives decreased our operating income growth in the current year by approximately two percentage points.

 

Interest Expense, net

 

2007 vs. 2006

 

Net interest expense increased by $8 million largely due to higher effective interest rates and additional interest associated with higher average debt balances throughout the year.

 

2006 vs. 2005

 

Net interest expense increased by $16 million largely due to higher effective interest rates from interest rate swaps which convert our fixed-rate debt to variable-rate debt.

 

Other Non-Operating (Income) Expenses, net

 

2007 vs. 2006

 

Other net non-operating income was $6 million in 2007 as compared to $11 million of net non-operating expenses in 2006. Income in 2007 was primarily a result of foreign exchange gains due to the strength of the Canadian Dollar, Turkish Lira, Russian Ruble and Euro. The expense position in 2006 was primarily a result of foreign exchange losses associated with the devaluation of the Turkish Lira.

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2006 vs. 2005

 

Other net non-operating expenses increased by $10 million primarily due to foreign exchange losses associated with the devaluation of the Turkish Lira. This devaluation caused transactional losses due to the revaluation of our U.S. dollar denominated liabilities in Turkey, which were repaid in June of 2006.

 

Minority Interest

 

2007 vs. 2006

 

In 2007, minority interest primarily reflects PepsiCo’s ownership in Bottling LLC of 6.7 percent, coupled with their 40 percent ownership in the PR Beverages venture. The $35 million increase in 2007 is primarily driven by PepsiCo’s minority interest in the PR Beverages venture. The remaining increase is a result of higher operating results in Bottling LLC.

 

2006 vs. 2005

 

Minority interest primarily represents PepsiCo’s approximate 6.7 percent ownership in Bottling LLC for both years ended 2006 and 2005.

 

Income Tax Expense

 

2007 vs. 2006

 

Our effective tax rate for 2007 and 2006 was 25.0 percent and 23.4 percent, respectively. The increase in our effective tax rate is primarily due to year-over-year comparability associated with the reversal of tax contingency reserves resulting from the expiration of the statute of limitations on the IRS audits in 2007 versus 2006. The tax law changes enacted in 2007 and 2006 that required us to re-measure our deferred taxes had approximately the same impact in both years.

 

2006 vs. 2005

 

Our effective tax rate for 2006 and 2005 was 23.4 percent and 34.7 percent, respectively. The decrease in our effective tax rate is due primarily to the reversal of tax contingency reserves of approximately $55 million relating to the completion of the IRS audit of PBG’s 1999-2000 income tax returns. In addition, during 2006, changes to the income tax laws in Canada, Turkey and certain jurisdictions within the U.S. were enacted. These tax law changes required us to re-measure our net deferred tax liabilities using lower tax rates which decreased our income tax expense by approximately $11 million during the year ended December 30, 2006, resulting in an increase in net income of $10 million after the impact of minority interest.

 

Diluted Weighted-Average Shares Outstanding

 

Diluted earnings per share reflect the potential dilution that could occur if equity awards from our stock compensation plans were exercised and converted into common stock that would then participate in net income.

 

Our diluted weighted-average shares outstanding for 2007, 2006 and 2005 were 233 million, 242 million and 250 million, respectively.

 

The decrease in shares outstanding reflects the effect of our share repurchase program, which began in October 1999, partially offset by share issuances from the exercise of stock options. The amount of shares authorized by the Board of Directors to be repurchased totals 150 million shares, of which we have repurchased approximately 13 million shares in 2007 and 132 million shares since the inception of our share repurchase program. For further discussion on our earnings per share calculation see Note 3 in the Notes to Consolidated Financial Statements.

 

Cash Flows

 

2007 vs. 2006

 

Net cash provided by operations increased by $209 million to $1,437 million in 2007. Increases in net cash provided by operations were driven by higher cash profits and favorable working capital.

 

Net cash used for investments increased by $152 million to $883 million, driven by higher capital spending due to strategic investments in the U.S. and Russia, including the building of new plants in Las Vegas and Moscow and additional dedicated water lines in the U.S.

 

Net cash used for financing increased by $193 million to $564 million, driven primarily by lower net proceeds from long-term debt partially offset by lower share repurchases in 2007.

 

2006 vs. 2005

 

Net cash provided by operations increased by $9 million to $1,228 million in 2006. Increases in net cash provided by operations were driven by higher cash profits, lower tax disbursements and lower pension contributions, partially offset by the impact of strong collections in the prior year. In 2005, net cash provided by operations included the excess tax benefit from the exercise of stock options. Beginning with the adoption of SFAS 123R in 2006, the excess tax benefit from the exercise of stock options is now required to be included in cash flows from financing activities.

 

Net cash used for investments decreased by $111 million to $731 million, principally reflecting lower acquisition costs, partially offset by higher capital spending.

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Net cash used for financing increased by $188 million to $371 million, driven primarily by the repayment of our $500 million note and other long-term debt, reduction in our short-term borrowings and higher dividend payments, partially offset by the proceeds from the $800 million bond issuance in March of 2006.

 

Capital Expenditures

 

Our business requires substantial infrastructure investments to maintain our existing level of operations and to fund investments targeted at growing our business. Capital expenditures included in our cash flows from investing activities totaled $854 million, $725 million and $715 million during 2007, 2006 and 2005, respectively. Capital expenditures increased $129 million in 2007 as a result of the strategic investments described above.

 

Liquidity and Capital Resources

 

Our principal sources of cash come from our operating activities and the issuance of debt and bank borrowings. We believe that these cash inflows will be sufficient to fund capital expenditures, benefit plan contributions, acquisitions, share repurchases, dividends and working capital requirements for the foreseeable future. Our liquidity has not been materially impacted by the current credit environment.

 

Long-Term Debt Activities

We had no significant long-term debt activities during 2007.

 

On March 30, 2006, Bottling LLC issued $800 million of 5.50% senior notes due 2016 (the “Notes”). The net proceeds received, after deducting the underwriting discount and offering expenses, were approximately $793 million. The net proceeds were used to repay outstanding commercial paper and the 2.45% senior notes due October of 2006. The Notes are general unsecured obligations and rank on an equal basis with all of Bottling LLC’s other existing and future unsecured indebtedness and are senior to all of Bottling LLC’s future subordinated indebtedness.

 

Short-Term Debt Activities

In October 2007, we amended and restated our existing $450 million committed revolving credit facility to increase the credit limit to $1.2 billion and provide for a new maturity date of October 2012 (“2007 Agreement”). The existing $550 million committed revolving credit facility was terminated. Our committed credit facility of $1.2 billion, which is guaranteed by Bottling LLC, supports our $1.2 billion commercial paper program. Subject to certain conditions stated in the 2007 Agreement, funds borrowed may also be used to issue standby letters of credit up to $400 million and for general corporate purposes during the term of the agreement.

 

At December 29, 2007, we had $50 million in outstanding commercial paper with a weighted-average interest rate of 5.3 percent. At December 30, 2006, we had $115 million in outstanding commercial paper with a weighted-average interest rate of 5.4 percent.

 

In addition to the revolving credit facility, we had available bank credit lines of approximately $748 million at year-end 2007. These lines were primarily used to support the general operating needs of our international locations. As of year-end 2007, we had $190 million outstanding under these lines of credit at a weighted-average interest rate of 5.3 percent. As of year-end 2006, we had available short-term bank credit lines of approximately $741 million and $242 million was outstanding under these lines of credit at a weighted-average interest rate of 5.0 percent.

 

Our peak borrowing timeframe varies with our working capital requirements and the seasonality of our business. Additionally, throughout the year, we may have further short-term borrowing requirements driven by other operational needs of our business. During 2007, borrowings from our commercial paper program in the U.S. peaked at $470 million. Borrowings from our line of credit facilities peaked at $466 million, reflecting payments for working capital requirements.

 

Debt Covenants and Credit Ratings

Certain of our senior notes have redemption features and non-financial covenants that will, among other things, limit our ability to create or assume liens, enter into sale and lease-back transactions, engage in mergers or consolidations and transfer or lease all or substantially all of our assets. Additionally, certain of our credit facilities and senior notes have financial covenants. These requirements are not, and it is not anticipated they will become, restrictive to our liquidity or capital resources. We are in compliance with all debt covenants. For a discussion of our covenants, see Note 7 in the Notes to Consolidated Financial Statements.

 

Our credit ratings are periodically reviewed by rating agencies. Currently our long-term ratings from Moody’s and Standard and Poors’ are A2 and A, respectively. Changes in our operating results or financial position could impact the ratings assigned by the various agencies resulting in higher or lower borrowing costs.

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Contractual Obligations

 

The following table summarizes our contractual obligations as of December 29, 2007:

 

 

This table excludes our pension and postretirement liabilities recorded on the balance sheet. For a discussion of our future pension and postretirement contributions and payments, as well as expected benefit payments see Note 10 in the Notes to Consolidated Financial Statements.

 

Off-Balance Sheet Arrangements

 

There are no off-balance sheet arrangements that have or are reasonably likely to have a current or future material effect on our financial condition, results of operations, liquidity, capital expenditures or capital resources.

 

Quantitative and Qualitative Disclosures
about Market Risk

 

In the normal course of business, our financial position is routinely subject to a variety of risks. These risks include the risk associated with the price of commodities purchased and used in our business, interest rates on outstanding debt and currency movements impacting our non-U.S. dollar denominated assets and liabilities. We are also subject to the risks associated with the business environment in which we operate. We regularly assess all of these risks and have policies and procedures in place to protect against the adverse effects of these exposures.

 

Our objective in managing our exposure to fluctuations in commodity prices, interest rates and foreign currency exchange rates is to minimize the volatility of earnings and cash flows associated with changes in the applicable rates and prices. To achieve this objective, we have derivative instruments to hedge against the risk of adverse movements in commodity prices, interest rates and foreign currency. Our corporate policy prohibits the use of derivative instruments for trading or speculative purposes, and we have procedures in place to monitor and control their use. See Note 9 in the Notes to Consolidated Financial Statements for additional information relating to our derivative instruments.

 

A sensitivity analysis has been prepared to determine the effects that market risk exposures may have on our financial instruments. We performed the sensitivity analyses for hypothetical changes in commodity prices, interest rates and foreign currency exchange rates and changes in our stock price on our unfunded deferred compensation liability. Information provided by these sensitivity analyses does not necessarily represent the actual changes in fair value that we would incur under normal market conditions because, due to practical limitations, all variables other than the specific market risk factor were held constant. As a result, the reported changes in the values of some financial instruments that are affected by the sensitivity analyses are not matched with the offsetting changes in the values of the items that those instruments are designed to finance or hedge.

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Commodity Price Risk

We are subject to market risks with respect to commodities because our ability to recover increased costs through higher pricing may be limited by the competitive environment in which we operate. We use future and option contracts to hedge the risk of adverse movements in commodity prices related primarily to anticipated purchases of raw materials and energy used in our operations. With respect to commodity price risk, we currently have various contracts outstanding for commodity purchases in 2008, which establish our purchase prices within defined ranges. We estimate that a 10-percent decrease in commodity prices with all other variables held constant would have resulted in a decrease in the fair value of our financial instruments of $7 million at December 29, 2007 and December 30, 2006.

 

Interest Rate Risk

Interest rate risk is present with both fixed and floating-rate debt. We effectively converted $550 million of our senior notes to floating rate debt through the use of interest rate swaps. Changes in interest rates on our interest rate swaps and other variable debt would change our interest expense. We estimate that a 50-basis point increase in interest rates on our variable rate debt and cash equivalents with all other variables held constant would have resulted in an increase to net interest expense of $2 million in 2007 and 2006.

 

Foreign Currency Exchange Rate Risk

In 2007, approximately 26 percent of our operating income came from outside the United States. Social, economic and political conditions in these international markets may adversely affect our results of operations, cash flows and financial condition. The overall risks to our international businesses include changes in foreign governmental policies and other social, political or economic developments. These developments may lead to new product pricing, tax or other policies and monetary fluctuations that may adversely impact our business. In addition, our results of operations and the value of the foreign assets and liabilities are affected by fluctuations in foreign currency exchange rates.

 

As currency exchange rates change, translation of the statements of operations of our businesses outside the U.S. into U.S. dollars affects year-over-year comparability. We generally have not hedged against these types of currency risks because cash flows from our international operations have been reinvested locally.

 

We have foreign currency transactional risks in certain of our international territories for transactions that are denominated in currencies that are different from their functional currency. We have entered into forward exchange contracts to hedge portions of our forecasted U.S. dollar cash flows in our Canadian business. A 10-percent weaker U.S. dollar against the Canadian dollar, with all other variables held constant, would result in a decrease in the fair value of these contracts of $6 million and $11 million at December 29, 2007 and December 30, 2006, respectively. The decrease in the fair value from the prior year is due to a decrease in the outstanding forward exchange contracts at December 29, 2007.

 

In 2007, we entered into forward exchange contracts to economically hedge a portion of intercompany receivable balances that are denominated in Mexican pesos. A 10-percent weaker U.S. dollar against the Mexican peso, with all variables held constant, would result in a decrease of $9 million in the fair value of these contracts at December 29, 2007.

 

Foreign currency gains and losses reflect both transaction gains and losses in our foreign operations, as well as translation gains and losses arising from the re-measurement into U.S. dollars of the net monetary assets of businesses in highly inflationary countries. Beginning in 2006, Turkey was no longer considered highly inflationary, and changed its functional currency from the U.S. Dollar to the Turkish Lira.

 

Unfunded Deferred Compensation Liability

Our unfunded deferred compensation liability is subject to changes in our stock price, as well as price changes in certain other equity and fixed-income investments. Employee investment elections include PBG stock and a variety of other equity and fixed-income investment options. Since the plan is unfunded, employees’ deferred compensation amounts are not directly invested in these investment vehicles. Instead, we track the performance of each employee’s investment selections and adjust the employee’s deferred compensation account accordingly. The adjustments to the employees’ accounts increases or decreases the deferred compensation liability reflected on our Consolidated Balance Sheet with an offsetting increase or decrease to our selling, delivery and administrative expenses in our Consolidated Statements of Operations. We use prepaid forward contracts to hedge the portion of our deferred compensation liability that is based on our stock price. Therefore, changes in compensation expense as a result of changes in our stock price are substantially offset by the changes in the fair value of these contracts. We estimate that a 10-percent unfavorable change in the year-end stock price would have reduced the fair value from these forward contract commitments by $2 million in 2007 and 2006.

 

Cautionary Statements

 

Except for the historical information and discussions contained herein, statements contained in this annual report on Form 10-K and in the annual report to the shareholders may constitute forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995. These forward-looking statements are based on currently available competitive, financial and economic data and our operating plans. These statements involve a number of risks, uncertainties and other factors that could cause actual results to be

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materially different. Among the events and uncertainties that could adversely affect future periods are:

 

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