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Section 1: 10-Q (10-Q)

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United States
Securities and Exchange Commission
Washington, D.C.  20549

FORM 10-Q
(Mark One)
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended July 31, 2020
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _______________ to _______________

Commission File No. 001-00123

Brown-Forman Corporation
(Exact name of Registrant as specified in its Charter)
Delaware
61-0143150
(State or other jurisdiction of
(IRS Employer
incorporation or organization)
Identification No.)
 
 
 
850 Dixie Highway
 
Louisville,
Kentucky
40210
(Address of principal executive offices)
(Zip Code)
(502) 585-1100
(Registrant’s telephone number, including area code)
N/A
(Former name, former address and former fiscal year, if changed since last report)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
Class A Common Stock (voting), $0.15 par value
BFA
New York Stock Exchange
Class B Common Stock (nonvoting), $0.15 par value
BFB
New York Stock Exchange
1.200% Notes due 2026
BF26
New York Stock Exchange
2.600% Notes due 2028
BF28
New York Stock Exchange
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 whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).  Yes þ   No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
 
Accelerated filer
Non-accelerated filer
 
Smaller reporting company
 
 
 
Emerging growth company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes     No  
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: August 31, 2020
Class A Common Stock (voting), $0.15 par value
169,091,412

Class B Common Stock (nonvoting), $0.15 par value
309,360,023





BROWN-FORMAN CORPORATION
Index to Quarterly Report Form 10-Q
 
 
 
 
 
Page
 
 
 
Item 1.
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
Item 5.
 
 
 
Item 6.
 
 
 
 
 
 



2



PART I - FINANCIAL INFORMATION
 
Item 1.  Financial Statements (Unaudited)


BROWN-FORMAN CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(Dollars in millions, except per share amounts)

 
Three Months Ended
 
July 31,
 
2019
 
2020
Sales
$
978

 
$
987

Excise taxes
212

 
234

Net sales
766

 
753

Cost of sales
268

 
288

Gross profit
498

 
465

Advertising expenses
92

 
62

Selling, general, and administrative expenses
164

 
148

Gain on sale of business

 
(127
)
Other expense (income), net
(6
)
 
(5
)
Operating income
248

 
387

Non-operating postretirement expense
1

 
1

Interest income
(2
)
 

Interest expense
21

 
20

Income before income taxes
228

 
366

Income taxes
42

 
42

Net income
$
186

 
$
324

Earnings per share:
 
 
 
Basic
$
0.39

 
$
0.68

Diluted
$
0.39

 
$
0.67

See notes to the condensed consolidated financial statements.

3



BROWN-FORMAN CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
(Dollars in millions)
 
 
Three Months Ended
 
July 31,
 
2019
 
2020
Net income
$
186

 
$
324

Other comprehensive income (loss), net of tax:
 
 
 
Currency translation adjustments
(13
)
 
62

Cash flow hedge adjustments
9

 
(45
)
Postretirement benefits adjustments
3

 
7

Net other comprehensive income (loss)
(1
)
 
24

Comprehensive income
$
185

 
$
348

See notes to the condensed consolidated financial statements.

4



BROWN-FORMAN CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
(Dollars in millions)
 
April 30,
2020
 
July 31,
2020
Assets
 
 
 
Cash and cash equivalents
$
675

 
$
908

Accounts receivable, less allowance for doubtful accounts of $11 and $12 at April 30 and July 31, respectively
570

 
721

Inventories:
 
 
 
Barreled whiskey
1,092

 
1,074

Finished goods
320

 
352

Work in process
172

 
189

Raw materials and supplies
101

 
126

Total inventories
1,685

 
1,741

Other current assets
335

 
276

Total current assets
3,265

 
3,646

Property, plant and equipment, net
848

 
834

Goodwill
756

 
760

Other intangible assets
635

 
657

Deferred tax assets
15

 
58

Other assets
247

 
236

Total assets
$
5,766

 
$
6,191

Liabilities
 
 
 
Accounts payable and accrued expenses
$
517

 
$
545

Dividends payable

 
84

Accrued income taxes
30

 
73

Short-term borrowings
333

 
389

Total current liabilities
880

 
1,091

Long-term debt
2,269

 
2,316

Deferred tax liabilities
177

 
156

Accrued pension and other postretirement benefits
297

 
297

Other liabilities
168

 
181

Total liabilities
3,791

 
4,041

Commitments and contingencies

 

Stockholders’ Equity
 
 
 
Common stock:
 
 
 
Class A, voting, $0.15 par value (170,000,000 shares authorized; 170,000,000 shares issued)
25

 
25

Class B, nonvoting, $0.15 par value (400,000,000 shares authorized; 314,532,000 shares issued)
47

 
47

Retained earnings
2,708

 
2,849

Accumulated other comprehensive income (loss), net of tax
(547
)
 
(523
)
Treasury stock, at cost (6,323,000 and 6,089,000 shares at April 30 and July 31, respectively)
(258
)
 
(248
)
Total stockholders’ equity
1,975

 
2,150

Total liabilities and stockholders’ equity
$
5,766

 
$
6,191

 See notes to the condensed consolidated financial statements.

5



BROWN-FORMAN CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(Dollars in millions)
 
Three Months Ended
 
July 31,
 
2019
 
2020
Cash flows from operating activities:
 
 
 
Net income
$
186

 
$
324

Adjustments to reconcile net income to net cash provided by operations:
 
 
 
Gain on sale of business

 
(127
)
Depreciation and amortization
18

 
19

Stock-based compensation expense
3

 
3

Deferred income tax provision
(9
)
 
(43
)
Other, net
1

 
(9
)
Changes in assets and liabilities, net of business acquisitions and dispositions:
 
 
 
Accounts receivable
(20
)
 
(133
)
Inventories
(100
)
 
(57
)
Other current assets
(4
)
 
31

Accounts payable and accrued expenses
(34
)
 
26

Accrued income taxes
35

 
45

Other operating assets and liabilities
(4
)
 
12

Cash provided by operating activities
72

 
91

Cash flows from investing activities:
 
 
 
Proceeds from sale of business

 
177

Acquisition of business, net of cash acquired
(22
)
 

Additions to property, plant, and equipment
(21
)
 
(15
)
Cash provided by (used for) investing activities
(43
)
 
162

Cash flows from financing activities:
 
 
 
Proceeds from short-term borrowings, maturities greater than 90 days

 
159

Repayments of short-term borrowings, maturities greater than 90 days

 
(70
)
Net change in short-term borrowings, maturities of 90 days or less
67

 
(34
)
Payments of withholding taxes related to stock-based awards
(13
)
 
(9
)
Acquisition of treasury stock
(1
)
 

Dividends paid
(79
)
 
(83
)
Cash used for financing activities
(26
)
 
(37
)
Effect of exchange rate changes on cash and cash equivalents
(3
)
 
17

Net increase in cash and cash equivalents

 
233

Cash and cash equivalents, beginning of period
307

 
675

Cash and cash equivalents, end of period
$
307

 
$
908

See notes to the condensed consolidated financial statements.

6



BROWN-FORMAN CORPORATION AND SUBSIDIARIES
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

In these notes, “we,” “us,” “our,” “Brown-Forman,” and the “Company” refer to Brown-Forman Corporation and its consolidated subsidiaries, collectively.

1.    Condensed Consolidated Financial Statements 
We prepared the accompanying unaudited condensed consolidated financial statements pursuant to the rules and regulations of the U.S. Securities and Exchange Commission for interim financial information. In accordance with those rules and regulations, we condensed or omitted certain information and disclosures normally included in annual financial statements prepared in accordance with U.S. generally accepted accounting principles (GAAP). In our opinion, the accompanying financial statements include all adjustments, consisting only of normal recurring adjustments (unless otherwise indicated), necessary for a fair statement of our financial results for the periods presented in these financial statements. The results for interim periods are not necessarily indicative of future or annual results.

We suggest that you read these condensed financial statements together with the financial statements and footnotes included in our Annual Report on Form 10-K for the fiscal year ended April 30, 2020, as amended (2020 Form 10-K). We prepared the accompanying financial statements on a basis that is substantially consistent with the accounting principles applied in our 2020 Form 10-K.

2.    Earnings Per Share 
We calculate basic earnings per share by dividing net income available to common stockholders by the weighted average number of common shares outstanding during the period. Diluted earnings per share further includes the dilutive effect of stock-based compensation awards. We calculate that dilutive effect using the “treasury stock method” (as defined by GAAP).

The following table presents information concerning basic and diluted earnings per share:
 
Three Months Ended
 
July 31,
(Dollars in millions, except per share amounts)
2019
 
2020
Net income available to common stockholders
$
186

 
$
324

 
 
 
 
Share data (in thousands):
 
 
 
Basic average common shares outstanding
477,369

 
478,327

Dilutive effect of stock-based awards
2,719

 
2,102

Diluted average common shares outstanding
480,088

 
480,429

 
 
 
 
Basic earnings per share
$
0.39

 
$
0.68

Diluted earnings per share
$
0.39

 
$
0.67



We excluded common stock-based awards for approximately 362,000 shares and 34,000 shares from the calculation of diluted earnings per share for the three months ended July 31, 2019 and 2020, respectively. We excluded those awards because they were not dilutive for those periods under the treasury stock method.

3.    Inventories 
Inventories are valued at the lower of cost or net realizable value. Some of our consolidated inventories are valued using the last-in, first-out (LIFO) method, which we use for the majority of our U.S. inventories. If the LIFO method had not been used, inventories at current cost would have been $311 million higher than reported as of April 30, 2020, and $321 million higher than reported as of July 31, 2020. Changes in the LIFO valuation reserve for interim periods are based on a proportionate allocation of the estimated change for the entire fiscal year.


7



4.    Goodwill and Other Intangible Assets
The following table shows the changes in goodwill (which includes no accumulated impairment losses) and other intangible assets during the three months ended July 31, 2020:
(Dollars in millions)
Goodwill
 
Other Intangible Assets
Balance at April 30, 2020
$
756

 
$
635

Sale of business (Note 14)
(4
)
 
(1
)
Foreign currency translation adjustment
8

 
23

Balance at July 31, 2020
$
760

 
$
657



Our other intangible assets consist of trademarks and brand names, all with indefinite useful lives.

5.    Commitments and Contingencies
We operate in a litigious environment, and we are sued in the normal course of business. Sometimes plaintiffs seek substantial damages. Significant judgment is required in predicting the outcome of these suits and claims, many of which take years to adjudicate. We accrue estimated costs for a contingency when we believe that a loss is probable and we can make a reasonable estimate of the loss, and then adjust the accrual as appropriate to reflect changes in facts and circumstances. We do not believe it is reasonably possible that these existing loss contingencies, individually or in the aggregate, would have a material adverse effect on our financial position, results of operations, or liquidity. No material accrued loss contingencies were recorded as of July 31, 2020.

We have guaranteed the repayment by a third-party importer of its obligation under a bank credit facility that it uses in connection with its importation of our products in Russia. If the importer were to default on that obligation, which we believe is unlikely, our maximum possible exposure under the existing terms of the guaranty would be approximately $9 million (subject to changes in foreign currency exchange rates). Both the fair value and carrying amount of the guaranty are insignificant. As of July 31, 2020, our actual exposure under the guaranty of the importer’s obligation was approximately $3 million. We also have accounts receivable from that importer of approximately $6 million at July 31, 2020, which we expect to collect in full. Based on the financial support we provide to the importer, we believe it meets the definition of a variable interest entity. However, because we do not control this entity, it is not included in our consolidated financial statements.

On May 30, 2019, we notified Bacardi Martini Ltd. (“Bacardi”) of our intention not to renew the terms of our United Kingdom (U.K.) Cost Sharing Agreement (the “Agreement”) whereby Bacardi provided certain services (e.g., warehousing and logistics, sales, reporting, treasury, tax, and other services) and Brown-Forman and Bacardi split the associated overhead for those services. For purposes of conducting business, Brown-Forman and Bacardi established a U.K. trade name, “Bacardi Brown-Forman Brands,” through which our products and Bacardi’s products were sold in the U.K. On a monthly basis, Bacardi would remit to us the revenues from sales of our products, net of our agreed contributions for overhead costs under the Agreement. On April 30, 2020, the Agreement expired according to its terms.

Following delivery of our notice and upon expiration of the Agreement, Bacardi alleged that it was entitled to approximately £49 million under the principle of commercial agency in the U.K., as well as additional compensation for the winding up of business conducted under the Agreement and for remitting the associated funds owed to us. From monthly settlements following the expiration of the Agreement, Bacardi withheld over £50 million owed to us, effectively bypassing the dispute resolution process under the Agreement.

In response to Bacardi’s actions, we initiated a lawsuit on August 20, 2020, in the Commercial Court in the U.K. seeking reimbursement of the amounts wrongfully withheld. Shortly thereafter, Bacardi filed a demand for arbitration seeking a determination that it was entitled to compensation as a commercial agent and for additional compensation for the work completed following the expiration of the Agreement.

Since it was raised, we have disputed Bacardi’s claim of commercial agency compensation and issued demands that Bacardi adhere to the dispute resolution process mandated by the Agreement and return the in excess of £50 million that Bacardi has wrongfully withheld from us. Given the early stages of the litigation and arbitration process, we are unable to estimate the range of reasonably possible loss, if any.

8



6.    Debt
Our long-term debt (net of unamortized discount and issuance costs) consists of:
(Principal and carrying amounts in millions)
April 30,
2020
 
July 31,
2020
2.25% senior notes, $250 principal amount, due January 15, 2023
$
249

 
$
249

3.50% senior notes, $300 principal amount, due April 15, 2025
297

 
297

1.20% senior notes, €300 principal amount, due July 7, 2026
324

 
352

2.60% senior notes, £300 principal amount, due July 7, 2028
369

 
388

4.00% senior notes, $300 principal amount, due April 15, 2038
294

 
294

3.75% senior notes, $250 principal amount, due January 15, 2043
248

 
248

4.50% senior notes, $500 principal amount, due July 15, 2045
488

 
488

 
$
2,269

 
$
2,316


Our short-term borrowings of $333 million as of April 30, 2020, and $389 million as of July 31, 2020, consisted primarily of borrowings under our commercial paper program.
(Dollars in millions)
April 30,
2020
 
July 31,
2020
Commercial paper
$333
 
$377
Average interest rate
1.29%
 
0.54%
Average remaining days to maturity
73
 
66


7.    Stockholders’ Equity
The following table shows the changes in stockholders’ equity by quarter during the three months ended July 31, 2019:
(Dollars in millions)
Class A Common Stock
 
Class B Common Stock
 
Additional Paid-in Capital
 
Retained Earnings
 
AOCI
 
Treasury Stock
 
Total
Balance at April 30, 2019
$
25

 
$
47

 
$

 
$
2,238

 
$
(363
)
 
$
(300
)
 
$
1,647

Adoption of ASU 2018-02
 
 
 
 
 
 
43

 
(43
)
 
 
 

Net income
 
 
 
 
 
 
186

 
 
 
 
 
186

Net other comprehensive income (loss)
 
 
 
 
 
 
 
 
(1
)
 
 
 
(1
)
Declaration of cash dividends
 
 
 
 
 
 
(158
)
 
 
 
 
 
(158
)
Acquisition of treasury stock
 
 
 
 
 
 
 
 
 
 
(1
)
 
(1
)
Stock-based compensation expense
 
 
 
 
3

 
 
 
 
 
 
 
3

Stock issued under compensation plans
 
 
 
 
 
 
 
 
 
 
16

 
16

Loss on issuance of treasury stock issued under compensation plans
 
 
 
 
(2
)
 
(27
)
 
 
 
 
 
(29
)
Balance at July 31, 2019
$
25

 
$
47

 
$
1

 
$
2,282

 
$
(407
)
 
$
(285
)
 
$
1,663




9



The following table shows the changes in stockholders’ equity by quarter during the three months ended July 31, 2020:
(Dollars in millions)
Class A Common Stock
 
Class B Common Stock
 
Additional Paid-in Capital
 
Retained Earnings
 
AOCI
 
Treasury Stock
 
Total
Balance at April 30, 2020
$
25

 
$
47

 
$

 
$
2,708

 
$
(547
)
 
$
(258
)
 
$
1,975

Net income
 
 
 
 
 
 
324

 
 
 
 
 
324

Net other comprehensive income (loss)
 
 
 
 
 
 
 
 
24

 
 
 
24

Declaration of cash dividends
 
 
 
 
 
 
(167
)
 
 
 
 
 
(167
)
Stock-based compensation expense
 
 
 
 
3

 
 
 
 
 
 
 
3

Stock issued under compensation plans
 
 
 
 
 
 
 
 
 
 
10

 
10

Loss on issuance of treasury stock issued under compensation plans
 
 
 
 
(3
)
 
(16
)
 
 
 
 
 
(19
)
Balance at July 31, 2020
$
25

 
$
47

 
$

 
$
2,849

 
$
(523
)
 
$
(248
)
 
$
2,150



The following table shows the change in each component of accumulated other comprehensive income (AOCI), net of tax, during the three months ended July 31, 2020:
(Dollars in millions)
Currency Translation Adjustments
 
Cash Flow Hedge Adjustments
 
Postretirement Benefits Adjustments
 
Total AOCI
Balance at April 30, 2020
$
(302
)
 
$
60

 
$
(305
)
 
$
(547
)
Net other comprehensive income (loss)
62

 
(45
)
 
7

 
24

Balance at July 31, 2020
$
(240
)
 
$
15

 
$
(298
)
 
$
(523
)


The following table shows the cash dividends declared per share on our Class A and Class B common stock during the three months ended July 31, 2020:
Declaration Date
 
Record Date
 
Payable Date
 
Amount per Share
May 21, 2020
 
June 8, 2020
 
July 1, 2020
 
$0.1743
July 23, 2020
 
September 4, 2020
 
October 1, 2020
 
$0.1743


8.    Net Sales 
The following table shows our net sales by geography:
 
Three Months Ended
 
July 31,
(Dollars in millions)
2019
 
2020
United States
$
374

 
$
387

Developed International1
205

 
231

Emerging2
133

 
107

Travel Retail3
32

 
13

Non-branded and bulk4
22

 
15

Total
$
766

 
$
753


 
 
1Represents net sales of branded products to “advanced economies” as defined by the International Monetary Fund (IMF), excluding the United States. Our largest developed international markets are the United Kingdom, Germany, Australia, and France.
2Represents net sales of branded products to “emerging and developing economies” as defined by the IMF. Our largest emerging markets are Mexico, Poland, and Russia.
3Represents net sales of branded products to global duty-free customers, other travel retail customers, and the U.S. military regardless of customer location.
4Includes net sales of used barrels, bulk whiskey and wine, and contract bottling regardless of customer location.

10




The following table shows our net sales by product category:
 
Three Months Ended
 
July 31,
(Dollars in millions)
2019
 
2020
Whiskey1
$
600

 
$
595

Tequila2
68

 
68

Wine3
39

 
41

Vodka4
26

 
19

Rest of portfolio
11

 
15

Non-branded and bulk5
22

 
15

Total
$
766

 
$
753


 
 
1Includes all whiskey spirits and whiskey-based flavored liqueurs, ready-to-drink, and ready-to-pour products. The brands included in this category are the Jack Daniel's family of brands, the Woodford Reserve family of brands, GlenDronach, BenRiach, Glenglassaugh, the Old Forester family of brands, Slane Irish Whiskey, and Coopers’ Craft. Also includes the Early Times, Canadian Mist, and Collingwood brands, which we divested on July 31, 2020 (Note 14).
2Includes el Jimador, the Herradura family of brands, New Mix, Pepe Lopez, and Antiguo.
3Includes Korbel Champagnes and Sonoma-Cutrer wines.
4Includes Finlandia.
5Includes net sales of used barrels, bulk whiskey and wine, and contract bottling regardless of customer location.

9.    Pension and Other Postretirement Benefits
The following table shows the components of the net cost of pension and other postretirement benefits recognized for our U.S. benefit plans. Information about similar international plans is not presented due to immateriality.
 
Three Months Ended
 
July 31,
(Dollars in millions)
2019
 
2020
Pension Benefits:
 
 
 
Service cost
$
6

 
$
7

Interest cost
8

 
6

Expected return on plan assets
(12
)
 
(12
)
Amortization of net actuarial loss
5

 
7

Net cost
$
7

 
$
8

 
 
 
 
Other Postretirement Benefits:
 
 
 
Interest cost
$
1

 
$
1

Amortization of prior service cost (credit)
(1
)
 
(1
)
Net cost
$

 
$



10.    Income Taxes
Our consolidated interim effective tax rate is based on our expected annual operating income, statutory tax rates, and income tax laws in the various jurisdictions where we operate. Significant or unusual items, including adjustments to accruals for tax uncertainties, are recognized in the fiscal quarter in which the related event or a change in judgment occurs. The effective tax rate of 11.6% for the three months ended July 31, 2020, was lower than the expected tax rate of 21.0% on ordinary income for the full fiscal year primarily due to a deferred tax benefit related to an intercompany transfer of assets and excess tax benefits related to stock-based compensation. The effective tax rate of 11.6% for the three months ended July 31, 2020, was lower than the effective tax rate of 18.2% for the three months ended July 31, 2019, primarily due to a deferred tax benefit related to an intercompany transfer of assets. Our expected tax rates include current fiscal year additions for existing tax contingency items.

11



Historically, we have asserted that the undistributed earnings of our foreign subsidiaries are reinvested indefinitely outside the United States. Therefore, no income taxes have been provided for any outside basis differences inherent in these subsidiaries other than those subject to the one-time repatriation tax. During fiscal 2020, we changed our indefinite reinvestment assertion with respect to current year earnings and prior year undistributed earnings for select foreign subsidiaries (but not for their other outside basis differences). No further changes have been made to our indefinite reinvestment assertion.

11.    Derivative Financial Instruments and Hedging Activities
Our multinational business exposes us to global market risks, including the effect of fluctuations in foreign currency exchange rates, commodity prices, and interest rates. We use derivatives to help manage financial exposures that occur in the normal course of business. We formally document the purpose of each derivative contract, which includes linking the contract to the financial exposure it is designed to mitigate. We do not hold or issue derivatives for trading or speculative purposes.

We use currency derivative contracts to limit our exposure to the foreign currency exchange risk that we cannot mitigate internally by using netting strategies. We designate most of these contracts as cash flow hedges of forecasted transactions (expected to occur within three years). We record all changes in the fair value of cash flow hedges in AOCI until the underlying hedged transaction occurs, at which time we reclassify that amount into earnings.

We do not designate some of our currency derivatives as hedges because we use them to partially offset the immediate earnings impact of changes in foreign currency exchange rates on existing assets or liabilities. We immediately recognize the change in fair value of these contracts in earnings.

We had outstanding currency derivatives, related primarily to our euro, British pound, and Australian dollar exposures, with notional amounts for all hedged currencies totaling $1,026 million at April 30, 2020 and $986 million at July 31, 2020. As of July 31, 2020, the maximum term of our outstanding derivative contracts was 36 months.

We also use foreign currency-denominated debt to help manage our foreign currency exchange risk. As of July 31, 2020, $646 million of our foreign currency-denominated debt instruments were designated as net investment hedges. These net investment hedges are intended to mitigate foreign currency exchange exposure related to non-U.S. dollar net investments in certain foreign subsidiaries. Any change in value of the designated portion of the hedging instruments is recorded in AOCI, offsetting the foreign currency translation adjustment of the related net investments that is also recorded in AOCI.

At inception, we expect each financial instrument designated as a hedge to be highly effective in offsetting the financial exposure it is designed to mitigate. We also assess the effectiveness on an ongoing basis. If determined to no longer be highly effective, designation and accounting for the instrument as a hedge would be discontinued.

We use forward purchase contracts with suppliers to protect against corn price volatility. We expect to take physical delivery of the corn underlying each contract and use it for production over a reasonable period of time. Accordingly, we account for these contracts as normal purchases rather than as derivative instruments.


12



The following tables present the pre-tax impact that changes in the fair value of our derivative instruments and non-derivative hedging instruments had on AOCI and earnings:
 
 
Three Months Ended
 
 
July 31,
(Dollars in millions)
Classification
2019
 
2020
Currency derivatives designated as cash flow hedges:
 
 

 
 

Net gain (loss) recognized in AOCI
n/a
$
15

 
$
(49
)
Net gain (loss) reclassified from AOCI into earnings
Sales
4

 
11

Currency derivatives not designated as hedging instruments:
 
 

 
 

Net gain (loss) recognized in earnings
Sales
$

 
$
(6
)
Net gain (loss) recognized in earnings
Other income (expense), net
1

 
8

Foreign currency-denominated debt designated as net investment hedge:
 
 
 
 
Net gain (loss) recognized in AOCI
n/a
$
23

 
$
(39
)
 
 
 
 
 
Total amounts presented in the accompanying condensed consolidated statements of operations for line items affected by the net gains (losses) shown above:
 
 
 
Sales
 
$
978

 
$
987

Other income (expense), net
 
6

 
5



We expect to reclassify $14 million of deferred net gains on cash flow hedges recorded in AOCI as of July 31, 2020, to earnings during the next 12 months. This reclassification would offset the anticipated earnings impact of the underlying hedged exposures. The actual amounts that we ultimately reclassify to earnings will depend on the exchange rates in effect when the underlying hedged transactions occur.

The following table presents the fair values of our derivative instruments:
 
 
 
April 30, 2020
 
July 31, 2020
(Dollars in millions)

Classification
 
Derivative Assets
 
Derivative Liabilities
 
Derivative Assets
 
Derivative Liabilities
Designated as cash flow hedges:
 
 
 
 
 
 
 
 
 
Currency derivatives
Other current assets
 
$
49

 
$
(1
)
 
$
19

 
$
(2
)
Currency derivatives
Other assets
 
30

 

 
4

 
(1
)
Currency derivatives
Accrued expenses
 

 

 
2

 
(3
)
Currency derivatives
Other liabilities
 

 

 
3

 
(8
)
Not designated as hedges:
 
 
 
 
 
 
 
 
 
Currency derivatives
Other current assets
 

 

 
4

 

Currency derivatives
Other assets
 

 

 

 

Currency derivatives
Accrued expenses
 

 
(2
)
 

 

Currency derivatives
Other liabilities
 

 

 

 



The fair values reflected in the above table are presented on a gross basis. However, as discussed further below, the fair values of those instruments subject to net settlement agreements are presented on a net basis in our balance sheets.

In our statements of cash flows, we classify cash flows related to cash flow hedges in the same category as the cash flows from the hedged items.

Credit risk. We are exposed to credit-related losses if the counterparties to our derivative contracts default. This credit risk is limited to the fair value of the contracts. To manage this risk, we contract only with major financial institutions that have earned investment-grade credit ratings and with whom we have standard International Swaps and Derivatives Association (ISDA) agreements that allow for net settlement of the derivative contracts. Also, we have established counterparty credit guidelines

13



that we monitor regularly, and we monetize contracts when we believe it is warranted. Because of these safeguards, we believe we have no derivative positions that warrant credit valuation adjustments.

Some of our derivative instruments require us to maintain a specific level of creditworthiness, which we have maintained. If our creditworthiness were to fall below that level, then the counterparties to our derivative instruments could request immediate payment or collateralization for derivative instruments in net liability positions. The aggregate fair value of all derivatives with creditworthiness requirements that were in a net liability position was $2 million at April 30, 2020, and $5 million at July 31, 2020.

Offsetting. As noted above, our derivative contracts are governed by ISDA agreements that allow for net settlement of derivative contracts with the same counterparty. It is our policy to present the fair values of current derivatives (i.e., those with a remaining term of 12 months or less) with the same counterparty on a net basis in our balance sheets. Similarly, we present the fair values of noncurrent derivatives with the same counterparty on a net basis. We do not net current derivatives with noncurrent derivatives in our balance sheets.

The following table summarizes the gross and net amounts of our derivative contracts:
(Dollars in millions)
Gross Amounts of Recognized Assets (Liabilities)
 
Gross Amounts Offset in Balance Sheet
 
Net Amounts Presented in Balance Sheet
 
Gross Amounts Not Offset in Balance Sheet
 
Net Amounts
April 30, 2020
 
 
 
 
 
 
 
 
 
Derivative assets
$
79

 
$
(1
)
 
$
78

 
$

 
$
78

Derivative liabilities
(3
)
 
1

 
(2
)
 

 
(2
)
July 31, 2020
 
 
 
 
 
 
 
 
 
Derivative assets
32

 
(8
)
 
24

 
(1
)
 
23

Derivative liabilities
(14
)
 
8

 
(6
)
 
1

 
(5
)


No cash collateral was received or pledged related to our derivative contracts as of April 30, 2020, or July 31, 2020.

12.    Fair Value Measurements
The following table summarizes the assets and liabilities measured or disclosed at fair value on a recurring basis:
 
April 30, 2020
 
July 31, 2020
 
Carrying
 
Fair
 
Carrying
 
Fair
(Dollars in millions)
Amount
 
Value
 
Amount
 
Value
Assets
 
 
 
 
 
 
 
Cash and cash equivalents
$
675

 
$
675

 
$
908

 
$
908

Currency derivatives
78

 
78

 
24

 
24

Liabilities
 
 
 
 
 
 
 
Currency derivatives
2

 
2

 
6

 
6

Short-term borrowings
333

 
333

 
389

 
389

Long-term debt
2,269

 
2,486

 
2,316

 
2,757



Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. We categorize the fair values of assets and liabilities into three levels based on the assumptions (inputs) used to determine those values. Level 1 provides the most reliable measure of fair value, while Level 3 generally requires significant management judgment. The three levels are:
Level 1 – Quoted prices (unadjusted) in active markets for identical assets or liabilities.
Level 2 – Observable inputs other than those included in Level 1, such as quoted prices for similar assets and liabilities in active markets; quoted prices for identical or similar assets and liabilities in inactive markets; or other inputs that are observable or can be derived from or corroborated by observable market data.
Level 3 – Unobservable inputs supported by little or no market activity.

14




We determine the fair values of our currency derivatives (forward contracts) using standard valuation models. The significant inputs used in these models, which are readily available in public markets or can be derived from observable market transactions, include the applicable spot exchange rates, forward exchange rates, and interest rates. These fair value measurements are categorized as Level 2 within the valuation hierarchy.

We determine the fair value of long-term debt primarily based on the prices at which identical or similar debt has recently traded in the market and also considering the overall market conditions on the date of valuation. These fair value measurements are categorized as Level 2 within the valuation hierarchy.

The fair values of cash, cash equivalents, and short-term borrowings approximate the carrying amounts due to the short maturities of these instruments.

We measure some assets and liabilities at fair value on a nonrecurring basis. That is, we do not measure them at fair value on an ongoing basis, but we do adjust them to fair value in some circumstances (for example, when we determine that an asset is impaired). No material nonrecurring fair value measurements were required during the periods presented in these financial statements.

13.    Other Comprehensive Income
The following tables show the components of net other comprehensive income (loss):
 
Three Months Ended
 
Three Months Ended
 
July 31, 2019
 
July 31, 2020
(Dollars in millions)
Pre-Tax
 
Tax
 
Net
 
Pre-Tax
 
Tax
 
Net
Currency translation adjustments:
 
 
 
 
 
 
 
 
 
 
 
Net gain (loss) on currency translation
$
(8
)
 
$
(5
)
 
$
(13
)
 
$
53

 
$
9

 
$
62

Reclassification to earnings

 

 

 

 

 

Other comprehensive income (loss), net
(8
)
 
(5
)
 
(13
)
 
53

 
9

 
62

Cash flow hedge adjustments:
 
 
 
 
 
 
 
 
 
 
 
Net gain (loss) on hedging instruments
15

 
(3
)
 
12

 
(49
)
 
12

 
(37
)
Reclassification to earnings1
(4
)
 
1

 
(3
)
 
(11
)
 
3

 
(8
)
Other comprehensive income (loss), net
11

 
(2
)
 
9

 
(60
)
 
15

 
(45
)
Postretirement benefits adjustments:
 
 
 
 
 
 
 
 
 
 
 
Net actuarial gain (loss) and prior service cost

 

 

 

 

 

Reclassification to earnings2
4

 
(1
)
 
3

 
10

 
(3
)
 
7

Other comprehensive income (loss), net
4

 
(1
)
 
3

 
10

 
(3
)
 
7

 
 
 
 
 
 
 
 
 
 
 
 
Total other comprehensive income (loss), net
$
7

 
$
(8
)
 
$
(1
)
 
$
3

 
$
21

 
$
24

1Pre-tax amount is classified as sales in the accompanying condensed consolidated statements of operations.
2For three months ended July 31, 2019, the pre-tax amount of $4 is classified as non-operating postretirement expense in the accompanying condensed consolidated statements of operations. For three months ended July 31, 2020, $6 of the pre-tax amount is classified as non-operating postretirement expense; $4 of the pretax amount is classified in gain on sale of business.

14.    Gain on Sale of Business
On July 31, 2020, we sold the Early Times, Canadian Mist, and Collingwood brands for $177 million in cash (subject to a post-closing inventory adjustment). The sale reflects the continued evolution of our portfolio strategy to focus on premium spirits brands. The total book value of the related business assets included in the sale was $50 million, consisting largely of inventories, the Canadian Mist production assets, and intellectual property. As a result of the sale, we recognized a pre-tax gain of $127 million during the first quarter of fiscal 2021.

15



Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations
You should read the following discussion and analysis in conjunction with both our unaudited condensed consolidated financial statements and related notes included in Part I, Item 1 of this Quarterly Report and our 2020 Form 10-K, as amended (2020 Form 10-K). Note that the results of operations for the three months ended July 31, 2020, do not necessarily indicate what our operating results for the full fiscal year will be. In this Item, “we,” “us,” “our,” “Brown-Forman,” and the “Company” refer to Brown-Forman Corporation and its consolidated subsidiaries, collectively.

Presentation Basis
Non-GAAP Financial Measures
We use certain financial measures in this report that are not measures of financial performance under U.S. generally accepted accounting principles (GAAP). These non-GAAP measures, defined below, should be viewed as supplements to (not substitutes for) our results of operations and other measures reported under GAAP. Other companies may not define or calculate these non-GAAP measures in the same way.
“Underlying change” in measures of statements of operations. We present changes in certain measures, or line items, of the statements of operations that are adjusted to an “underlying” basis. We use “underlying change” for the following measures of the statements of operations: (a) underlying net sales; (b) underlying cost of sales; (c) underlying gross profit; (d) underlying advertising expenses; (e) underlying selling, general, and administrative (SG&A) expenses; (f) underlying other expense (income) net; (g) underlying operating expenses1; and (h) underlying operating income. To calculate these measures, we adjust, as applicable, for (a) acquisitions and divestitures, (b) foreign exchange, and (c) estimated net change in distributor inventories. We explain these adjustments below.
“Acquisitions and divestitures.” This adjustment removes (a) any non-recurring effects related to our acquisitions and divestitures (e.g., transaction costs and integration costs), and (b) the effects of operating activity related to acquired and divested brands for periods not comparable year over year (non-comparable periods). By excluding non-comparable periods, we therefore include the effects of acquired and divested brands only to the extent that results are comparable year over year.
In fiscal 2020, we acquired 100% of the voting interests in The 86 Company, which owns Fords Gin. During the first quarter of fiscal 2021, we sold our Early Times, Canadian Mist, and Collingwood brands and related assets, which resulted in a one-time pre-tax gain of $127 million. See Note 14 to the Condensed Consolidated Financial Statements for details. This adjustment removes (a) transaction and integration costs related to the acquisition and divestiture, (b) operating activity for The 86 Company for the non-comparable period, which is activity in the first quarter of fiscal 2021, and (c) the gain on sale of Early Times, Canadian Mist, and Collingwood. We believe that these adjustments allow for us to better understand our underlying results on a comparable basis.
“Foreign exchange.” We calculate the percentage change in certain line items of the statements of operations in accordance with GAAP and adjust to exclude the cost or benefit of currency fluctuations. Adjusting for foreign exchange allows us to understand our business on a constant-dollar basis, as fluctuations in exchange rates can distort the underlying trend both positively and negatively. (In this report, “dollar” always means the U.S. dollar unless stated otherwise.) To eliminate the effect of foreign exchange fluctuations when comparing across periods, we translate current-year results at prior-year rates and remove transactional and hedging foreign exchange gains and losses from current- and prior-year periods.
“Estimated net change in distributor inventories.” This adjustment refers to the estimated net effect of changes in distributor inventories on changes in certain line items of the statements of operations. For each period compared, we use volume information from our distributors to estimate the effect of distributor inventory changes in certain line items of the statements of operations. We believe that this adjustment reduces the effect of varying levels of distributor inventories on changes in certain line items of the statements of operations and allows us to understand better our underlying results and trends.
We use the non-GAAP measures “underlying change” to: (a) understand our performance from period to period on a consistent basis; (b) compare our performance to that of our competitors; (c) calculate components of management incentive compensation; (d) plan and forecast; and (e) communicate our financial performance to the board of directors, stockholders, and the investment community. We provide reconciliations of the “underlying change” in certain line items of the statements of operations to their nearest GAAP measures in the tables under “Results of Operations - Year-Over-Year Period Comparisons.” We have consistently applied the adjustments within our reconciliations in arriving at each non-GAAP measure.
 
 
1Operating expenses include advertising expense, SG&A expense, and other expense (income), net.

16



Definitions
Aggregations.
From time to time, to explain our results of operations or to highlight trends and uncertainties affecting our business, we aggregate markets according to stage of economic development as defined by the International Monetary Fund (IMF), and we aggregate brands by product category. We define our geographic and brand aggregations below.
Geographic Aggregations.
In “Results of Operations - Fiscal 2021 Year-to-Date Highlights,” we provide supplemental information for our largest markets ranked by percentage of total fiscal 2020 net sales. In addition to markets that are listed by country name, we include the following aggregations:
“Developed International” markets are “advanced economies” as defined by the IMF, excluding the United States. Our largest developed international markets are the United Kingdom, Germany, Australia, and France. This aggregation represents our net sales of branded products to these markets.
“Emerging” markets are “emerging and developing economies” as defined by the IMF. Our largest emerging markets are Mexico, Poland, and Russia. This aggregation represents our net sales of branded products to these markets.
“Travel Retail” represents our net sales of branded products to global duty-free customers, other travel retail customers, and the U.S. military regardless of customer location.
“Non-branded and bulk” includes our net sales of used barrels, bulk whiskey and wine, and contract bottling regardless of customer location.
Brand Aggregations.
In “Results of Operations - Fiscal 2021 Year-to-Date Highlights,” we provide supplemental information for our largest brands ranked by percentage of total fiscal 2020 net sales. In addition to brands that are listed by name, we include the following aggregations:
“Whiskey” includes all whiskey spirits and whiskey-based flavored liqueurs, ready-to-drink (RTD), and ready-to-pour products (RTP). The brands included in this category are the Jack Daniel’s family of brands, the Woodford Reserve family of brands (Woodford Reserve), GlenDronach, BenRiach, Glenglassaugh, the Old Forester family of brands (Old Forester), Slane Irish Whiskey, and Coopers’ Craft. Also includes the Early Times, Canadian Mist, and Collingwood brands, which we divested on July 31, 2020. See Note 14 to the Condensed Consolidated Financial Statements for details.
“American whiskey” includes the Jack Daniel’s family of brands, premium bourbons (defined below), super-premium American whiskey (defined below), and Early Times.
“Jack Daniel’s family of brands” includes Jack Daniel’s Tennessee Whiskey (JDTW), Jack Daniel’s RTD and RTP products (JD RTD/RTP), Jack Daniel’s Tennessee Honey (JDTH), Gentleman Jack, Jack Daniel’s Tennessee Fire (JDTF), Jack Daniel’s Tennessee Apple (JDTA), Jack Daniel’s Single Barrel Collection (JDSB), Jack Daniel’s Tennessee Rye Whiskey (JDTR), Jack Daniel’s Sinatra Select, Jack Daniel’s No. 27 Gold Tennessee Whiskey, and Jack Daniel’s Bottled-in-Bond.
“Jack Daniel’s RTD and RTP” products include Jack Daniel’s & Cola, Jack Daniel’s Country Cocktails, Jack Daniel’s & Diet Cola, Jack & Ginger, Jack Daniel’s Double Jack, Gentleman Jack & Cola, Jack Daniel’s Lynchburg Lemonade, Jack Daniel’s American Serve, Jack Daniel’s Tennessee Honey RTD, Jack Daniel’s Berry, Jack Daniel’s Cider, Jack Daniel’s Whiskey & Seltzer, and the seasonal Jack Daniel’s Winter Jack RTP.
“Premium bourbons” includes Woodford Reserve, Old Forester, and Coopers’ Craft.
“Super-premium American whiskey” includes Woodford Reserve, Gentleman Jack, JDSB, JDTR, Jack Daniel’s Sinatra Select, and Jack Daniel’s No. 27 Gold Tennessee Whiskey.
“Tequila” includes el Jimador, the Herradura family of brands (Herradura), New Mix, Pepe Lopez, and Antiguo.
“Wine” includes Korbel Champagnes and Sonoma-Cutrer wines.
“Vodka” includes Finlandia.

17



“Non-branded and bulk” includes our net sales of used barrels, bulk whiskey and wine, and contract bottling, regardless of customer location.
Other Metrics.
“Depletions.” We generally record revenues when we ship our products to our customers. Depletions is a term commonly used in the beverage alcohol industry to describe volume. Depending on the context, depletions means either (a) our shipments directly to retail or wholesale customers for owned distribution markets or (b) shipments from our distributor customers to retailers and wholesalers in other markets. We believe that depletions measure volume in a way that more closely reflects consumer demand than our shipments to distributor customers do. In this document, unless otherwise specified, we refer to depletions when discussing volume.
“Consumer takeaway.” When discussing trends in the market, we refer to consumer takeaway, a term commonly used in the beverage alcohol industry. Consumer takeaway refers to the purchase of product by consumers from retail outlets, including products purchased through e-premise channels, as measured by volume or retail sales value. This information is provided by third parties, such as Nielsen and the National Alcohol Beverage Control Association (NABCA). Our estimates of market share or changes in market share are derived from consumer takeaway data using the retail sales value metric. We believe consumer takeaway is a leading indicator of how consumer demand is trending.

Important Information on Forward-Looking Statements:
This report contains statements, estimates, and projections that are “forward-looking statements” as defined under U.S. federal securities laws. Words such as “aim,” “anticipate,” “aspire,” “believe,” “can,” “continue,” “could,” “envision,” “estimate,” “expect,” “expectation,” “intend,” “may,” “might,” “plan,” “potential,” “project,” “pursue,” “see,” “seek,” “should,” “will,” “would,” and similar words indicate forward-looking statements, which speak only as of the date we make them. Except as required by law, we do not intend to update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise. By their nature, forward-looking statements involve risks, uncertainties, and other factors (many beyond our control) that could cause our actual results to differ materially from our historical experience or from our current expectations or projections. These risks and uncertainties include, but are not limited to, those described in Part I, Item 1A. Risk Factors of our 2020 Form 10-K, those described in Part II, Item 1A of this report, and those described from time to time in our future reports filed with the Securities and Exchange Commission, including:

Impact of health epidemics and pandemics, including the COVID-19 pandemic, and the resulting negative economic impact and related governmental actions
Risks associated with being a U.S.-based company with global operations, including commercial, political, and financial risks; local labor policies and conditions; protectionist trade policies, or economic or trade sanctions, including additional retaliatory tariffs on American spirits and the effectiveness of our actions to mitigate the negative impact on our margins, sales, and distributors; compliance with local trade practices and other regulations; terrorism; and health pandemics
Failure to comply with anti-corruption laws, trade sanctions and restrictions, or similar laws or regulations
Fluctuations in foreign currency exchange rates, particularly a stronger U.S. dollar
Changes in laws, regulatory measures, or governmental policies – especially those that affect the production, importation, marketing, labeling, pricing, distribution, sale, or consumption of our beverage alcohol products
Tax rate changes (including excise, sales, VAT, tariffs, duties, corporate, individual income, dividends, or capital gains) or changes in related reserves, changes in tax rules or accounting standards, and the unpredictability and suddenness with which they can occur
Unfavorable global or regional economic conditions, particularly related to the COVID-19 pandemic, and related economic slowdowns or recessions, low consumer confidence, high unemployment, weak credit or capital markets, budget deficits, burdensome government debt, austerity measures, higher interest rates, higher taxes, political instability, higher inflation, deflation, lower returns on pension assets, or lower discount rates for pension obligations
Dependence upon the continued growth of the Jack Daniel’s family of brands
Changes in consumer preferences, consumption, or purchase patterns – particularly away from larger producers in favor of small distilleries or local producers, or away from brown spirits, our premium products, or spirits generally, and our ability to anticipate or react to them; legalization of marijuana use on a more widespread basis; shifts in consumer purchase practices from traditional to e-commerce retailers; bar, restaurant, travel, or other on-premise declines; shifts in demographic or health and wellness trends; or unfavorable consumer reaction to new products, line extensions, package changes, product reformulations, or other product innovation
Decline in the social acceptability of beverage alcohol in significant markets
Production facility, aging warehouse, or supply chain disruption

18



Imprecision in supply/demand forecasting
Higher costs, lower quality, or unavailability of energy, water, raw materials, product ingredients, labor, or finished goods
Significant additional labeling or warning requirements or limitations on availability of our beverage alcohol products
Competitors’ and retailers’ consolidation or other competitive activities, such as pricing actions (including price reductions, promotions, discounting, couponing, or free goods), marketing, category expansion, product introductions, or entry or expansion in our geographic markets or distribution networks
Route-to-consumer changes that affect the timing of our sales, temporarily disrupt the marketing or sale of our products, or result in higher fixed costs
Inventory fluctuations in our products by distributors, wholesalers, or retailers
Risks associated with acquisitions, dispositions, business partnerships, or investments – such as acquisition integration, termination difficulties or costs, or impairment in recorded value
Counterfeiting and inadequate protection of our intellectual property rights
Product recalls or other product liability claims, product tampering, contamination, or quality issues
Significant legal disputes and proceedings, or government investigations
Cyber breach or failure or corruption of key information technology systems, or failure to comply with personal data protection laws
Negative publicity related to our company, products, brands, marketing, executive leadership, employees, board of directors, family stockholders, operations, business performance, or prospects
Failure to attract or retain key executive or employee talent
Our status as a family “controlled company” under New York Stock Exchange rules, and our dual-class share structure

19



Overview
COVID-19
COVID-19 negatively affected our results in the fourth quarter of fiscal 2020 and continued to impact our results for the three months ended July 31, 2020. The impact continues to be concentrated in (a) the on-premise as a result of the restrictions in the channel (representing nearly 20% of our business), (b) our Travel Retail channel as a result of travel bans and other restrictions, and (c) our emerging markets. Solid off-premise gains across many of our developed markets, which reflected an increase in at-home consumption and strong growth in the e-premise channel, offset the significant reduction in sales in the on-premise, Travel Retail, and emerging markets. While the financial impact of COVID-19 on our results is difficult to measure, it has had an impact on our operating income and business operations. We discuss the effect of COVID-19 on our results where relevant below.
Despite the ongoing effects resulting from COVID-19 on our results in the first quarter, we believe we remain in a strong financial position, and our capacity to generate solid operating cash flow remains sound, allowing us to navigate this crisis as circumstances evolve. Additionally, we have no current or impending shareholder distributions beyond regular dividends and no maturities of long-term debt until our fiscal 2023. See “Liquidity and Financial Condition” below for details.
Fiscal 2021 Year-to-Date Highlights
We delivered reported net sales of $753 million, a decrease of 2% compared to the same period last year. Excluding an estimated net decrease in distributor inventories, we grew underlying net sales 3%. Net sales for our markets and brands were affected by COVID-19 during the first quarter of fiscal 2021. Underlying growth was driven by (a) JD RTDs, (b) the continued launch of JDTA, (c) our tequila brands, and (d) our premium bourbon brands, led by Woodford Reserve. Declines of JDTW due to the adverse affect of COVID-19 partially offset this underlying growth. From a geographic perspective, the United States led the underlying net sales growth with developed international markets also contributing. These gains were partially offset by a decline in the underlying net sales in our Travel Retail channel, our used barrel sales, and emerging markets.
We delivered reported operating income of $387 million, an increase of 56% compared to the same period of last year. Excluding (a) the gain on sale of Early Times, Canadian Mist, and Collingwood, (b) an estimated net decrease in distributor inventories, and (c) the positive effect of foreign exchange, underlying operating income grew 15%.
We delivered diluted earnings per share of $0.67, an increase of 73% compared to the same period last year, including an estimated $0.19 per share benefit from the gain on sale of Early Times, Canadian Mist, and Collingwood and an $0.08 per share benefit from a discrete tax item recognized during the quarter related to an intercompany transfer of assets.



20



Summary of Operating Performance
 
Three Months Ended July 31,
(Dollars in millions)
2019
 
2020
 
Reported Change
 
Underlying Change1
Net sales
$
766

 
$
753

 
(2
%)
 
3
%
Cost of sales
268

 
288

 
7
%
 
12
%
Gross profit
498

 
465

 
(7
%)
 
(1
%)
Advertising
92

 
62

 
(33
%)
 
(34
%)
SG&A
164

 
148

 
(10
%)
 
(10
%)
Gain on sale of business

 
(127
)
 
NA

 
%
Other expense (income), net

(6
)
 
(5
)
 
(26
%)
 
(66
%)
Operating income
248

 
387

 
56
%
 
15
%
 
 
 
 
 
 
 
 
Total operating expenses2
$
250

 
$
205

 
(18
%)
 
(17
%)
 
 
 
 
 
 
 
 
As a percentage of net sales3
 
 
 
 
 
 
 
Gross profit
64.9
%
 
61.7
%
 
(3.2
)pp
 
 
Operating income
32.4
%
 
51.4
%
 
19.0
 pp
 
 
Non-operating postretirement expense
$
1

 
$
1

 
28
%
 
 
Interest expense, net
$
19

 
$
20

 
4
%
 
 
Effective tax rate
18.2
%
 
11.6
%
 
(6.6
)pp
 
 
Diluted earnings per share
$
0.39

 
$
0.67

 
73
%
 
 
Note: Totals may differ due to rounding
 
 
 
 
 
 
 
 
 
1See “Non-GAAP Financial Measures” above for details on our use of “underlying change,” including how we calculate these measures and why we think this information is useful to readers.
2Operating expenses include advertising expense, SG&A expense, and other expense (income), net.
3Year-over-year changes in percentages are reported in percentage points (pp).
Fiscal 2021 Outlook
We continue to face substantial uncertainty related to the evolving COVID-19 pandemic, its effect on the global economy, and ultimately its effect on the consumers of our brands. Our ability to make, ship, and market our brands to our consumers has not been materially impacted by COVID-19, and we do not expect that to change. How we sell our brands looks different due to COVID-19, but we do not expect a material limit on our ability to sell our brands to our consumers. We continue to closely monitor key developments in our markets, including (a) the stage of recovery, (b) industry and consumer behavior, (c) macroeconomic conditions, and (d) the timing, likelihood, severity, and restrictions associated with any future waves of COVID-19.
As a result of these uncertainties and low visibility on recovery, and consistent with our 2020 Form 10-K, we are not able to provide quantitative guidance for fiscal 2021 at this time. From a qualitative perspective, we believe that (a) the Travel Retail channel will not recover during this fiscal year, (b) the timing and strength of the on-premise channel recovery will depend on a variety of factors, but will likely not be at full capacity by the fiscal-year end, and (c) our emerging markets will remain down for the fiscal year. Our gross margin will likely remain under pressure for the year driven by the expectation of higher input cost and mix shifts. However, where our gross margin ultimately lands will depend not only on the volumes of our business, but the mix of our business by geography, portfolio, channel, and size.
We believe we are well positioned to invest effectively as the recovery occurs. We expect overall operating expenses, notably our advertising investments, to accelerate as the year-over-year rate of declines seen in the first quarter of fiscal 2021 will not be sustained throughout the year. Also, as previously announced, we plan to make a $20 million contribution to the Brown-Forman Foundation during fiscal 2021. We will remain agile, diligent, focused, and disciplined on our investments as the environment continues to evolve.
We expect our full-year effective tax rate to be in the range of 17% to 19%.



21



Results of Operations – Fiscal 2021 Year-to-Date Highlights
Market Highlights
The following table provides supplemental information for our largest markets for the three months ended July 31, 2020, compared to the same period last year. We discuss results of the markets most affecting our performance below the table. Unless otherwise indicated, all related commentary is for the three months ended July 31, 2020, compared to the same period last year.
Top Markets1 
 
 
Three months ended July 31, 2020
Net Sales % Change vs. 2020
Geographic area2
Reported
Foreign Exchange
Est. Net Chg in Distributor Inventories
 
Underlying3
United States
3
%
%
5
%
 
9
%
Developed International
13
%
(5
%)
5
%
 
12
%
United Kingdom
46
%
(25
%)
2
%
 
24
%
Germany
20
%
(3
%)
%
 
17
%
Australia
29
%