FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549


(Mark One)

x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended May 31, 2005

OR

o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____________________ to ____________________

 
Commission File Number 001-08495


CONSTELLATION BRANDS, INC.
(Exact name of registrant as specified in its charter)
 

Delaware
  
16-0716709
(State or other jurisdiction of
incorporation or organization)
  
(I.R.S. Employer
Identification No.)


370 Woodcliff Drive, Suite 300, Fairport, New York
14450
(Address of principal executive offices)
(Zip Code)

(585) 218-3600
(Registrant’s telephone number, including area code)
 
 
(Former name, former address and former fiscal year, if changed since last report)


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 x No o

Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes x No o

The number of shares outstanding with respect to each of the classes of common stock of Constellation Brands, Inc., as of June 30, 2005, is set forth below:
 
Class
  
Number of Shares Outstanding
Class A Common Stock, Par Value $.01 Per Share
  
 196,310,284
Class B Common Stock, Par Value $.01 Per Share
  
 23,891,138
 
 
           
Item 1.      Financial Statements
          
           
CONSTELLATION BRANDS, INC. AND SUBSIDIARIES
 
CONSOLIDATED BALANCE SHEETS
 
(in thousands, except share and per share data)
 
(unaudited)
 
           
   
May 31,
 
February 28,
  
   
2005
 
2005
 
ASSETS
          
CURRENT ASSETS:
         
Cash and cash investments
 
$
19,184
  
$
17,635
  
Accounts receivable, net
   
822,223
   
849,642
 
Inventories
   
1,666,159
   
1,607,735
 
Prepaid expenses and other
   
211,572
   
259,023
 
Total current assets
   
2,719,138
   
2,734,035
 
PROPERTY, PLANT AND EQUIPMENT, net
   
1,449,512
   
1,596,367
 
GOODWILL
   
2,118,576
   
2,182,669
 
INTANGIBLE ASSETS, net
   
929,150
   
945,650
 
OTHER ASSETS, net
   
285,068
   
345,451
 
Total assets
 
$
7,501,444
  
$
7,804,172
  
               
LIABILITIES AND STOCKHOLDERS' EQUITY
              
CURRENT LIABILITIES:
             
Notes payable to banks
 
$
62,607
  
$
16,475
  
Current maturities of long-term debt
   
67,888
   
68,094
 
Accounts payable
   
387,177
   
345,254
 
Accrued excise taxes
   
58,997
   
74,356
 
Other accrued expenses and liabilities
   
557,161
   
633,908
 
Total current liabilities
   
1,133,830
   
1,138,087
 
LONG-TERM DEBT, less current maturities
   
2,968,792
   
3,204,707
 
DEFERRED INCOME TAXES
   
382,055
   
389,886
 
OTHER LIABILITIES
   
274,557
   
291,579
 
STOCKHOLDERS' EQUITY:
             
Preferred Stock, $.01 par value-
   Authorized, 1,000,000 shares;
   Issued, 170,500 shares at May 31, 2005, and
   February 28, 2005 (Aggregate liquidation preference
   of $172,951 at May 31, 2005)
   
2
   
2
 
Class A Common Stock, $.01 par value-
   Authorized, 275,000,000 shares;
   Issued, 200,766,612 shares at May 31, 2005,
   and 199,885,616 shares at February 28, 2005
   
2,008
   
1,999
 
Class B Convertible Common Stock, $.01 par value-
   Authorized, 30,000,000 shares;
   Issued, 28,957,060 shares at May 31, 2005,
   and 28,966,060 shares at February 28, 2005
   
289
   
289
 
Additional paid-in capital
   
1,110,328
   
1,097,177
 
Retained earnings
   
1,350,101
   
1,276,853
 
Accumulated other comprehensive income
   
307,681
   
431,843
 
     
2,770,409
   
2,808,163
 
Less-Treasury stock-
             
Class A Common Stock, 4,818,822 shares at
   May 31, 2005, and 4,823,650 shares at
   February 28, 2005, at cost
   
(25,958
)
  
(25,984
)
Class B Convertible Common Stock, 5,005,800 shares
   at May 31, 2005, and February 28, 2005, at cost
   
(2,207
)
  
(2,207
)
     
(28,165
)
  
(28,191
)
Less-Unearned compensation-restricted stock awards
   
(34
)
  
(59
)
Total stockholders' equity
   
2,742,210
   
2,779,913
 
Total liabilities and stockholders' equity
 
$
7,501,444
  
$
7,804,172
  
               
The accompanying notes are an integral part of these statements.
CONSTELLATION BRANDS, INC. AND SUBSIDIARIES
 
CONSOLIDATED STATEMENTS OF INCOME
 
(in thousands, except per share data)
 
(unaudited)
 
           
   
For the Three Months Ended May 31,
 
   
2005
 
2004
 
           
SALES
 
$
1,366,309
  
$
1,174,315
  
Less - Excise taxes
   
(269,774
)
  
(247,010
)
Net sales
   
1,096,535
   
927,305
 
COST OF PRODUCT SOLD
   
(790,529
)
  
(676,843
)
Gross profit
   
306,006
   
250,462
 
SELLING, GENERAL AND ADMINISTRATIVE
       EXPENSES
   
(157,864
)
  
(138,428
)
ACQUISITION-RELATED INTEGRATION COSTS
   
(6,439
)
  
-
 
RESTRUCTURING AND RELATED CHARGES
   
(1,880
)
  
(1,613
)
Operating income
   
139,823
   
110,421
 
EQUITY IN (LOSS) EARNINGS OF EQUITY
       METHOD INVESTEES
   
(542
)
  
62
 
INTEREST EXPENSE, net
   
(47,295
)
  
(30,281
)
Income before income taxes
   
91,986
   
80,202
 
PROVISION FOR INCOME TAXES
   
(16,287
)
  
(28,873
)
NET INCOME
   
75,699
   
51,329
 
Dividends on preferred stock
   
(2,451
)
  
(2,451
)
INCOME AVAILABLE TO COMMON
       STOCKHOLDERS
 
$
73,248
  
$
48,878
  
               
               
SHARE DATA:
             
Earnings per common share:
             
Basic - Class A Common Stock
 
$
0.34
  
$
0.23
  
Basic - Class B Common Stock
 
$
0.31
  
$
0.21
  
Diluted
 
$
0.32
  
$
0.22
  
               
Weighted average common shares outstanding:
             
Basic - Class A Common Stock
   
195,567
   
189,440
 
Basic - Class B Common Stock
   
23,955
   
24,117
 
Diluted
   
238,154
   
230,123
 
               
The accompanying notes are an integral part of these statements.
 
 
CONSTELLATION BRANDS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
           
   
For the Three Months Ended May 31,
 
   
2005
 
2004
 
CASH FLOWS FROM OPERATING ACTIVITIES:
         
      Net income
 
$
75,699
  
$
51,329
  
               
      Adjustments to reconcile net income to net cash provided by
         (used in) operating activities:
             
Proceeds from settlement of interest rate swap contracts
   
30,269
   
-
 
Depreciation of property, plant and equipment
   
27,506
   
21,194
 
Deferred tax provision
   
13,456
   
6,259
 
Amortization of intangible and other assets
   
1,773
   
3,061
 
Loss on disposal of assets
   
1,401
   
693
 
Equity in loss (earnings) of equity method investees
   
542
   
(62
)
Stock-based compensation expense
   
25
   
25
 
Amortization of discount on long-term debt
   
20
   
13
 
Noncash portion of loss on extinguishment of debt
   
-
   
1,799
 
Change in operating assets and liabilities, net of effects
from purchases and sales of businesses:
             
Accounts receivable, net
   
8,531
   
(85,132
)
Inventories
   
(112,969
)
  
(113,885
)
Prepaid expenses and other current assets
   
(3,651
)
  
12,566
 
Accounts payable
   
70,089
   
112,745
 
Accrued excise taxes
   
(14,033
)
  
7,449
 
Other accrued expenses and liabilities
   
(35,655
)
  
(56,971
)
Other, net
   
(2,977
)
  
(7,541
)
Total adjustments
   
(15,673
)
  
(97,787
)
Net cash provided by (used in) operating activities
   
60,026
   
(46,458
)
               
CASH FLOWS FROM INVESTING ACTIVITIES:
             
Purchases of property, plant and equipment
   
(31,840
)
  
(22,113
)
Investment in equity method investee
   
(2,286
)
  
-
 
Payment of accrued earn-out amount
   
(1,648
)
  
(1,338
)
Proceeds from sale of assets
   
92,776
   
445
 
Proceeds from sale of equity method investment
   
35,171
   
-
 
Proceeds from sale of businesses
   
17,861
   
-
 
Net cash provided by (used in) investing activities
   
110,034
   
(23,006
)
               
CASH FLOWS FROM FINANCING ACTIVITIES:
             
Principal payments of long-term debt
   
(219,540
)
  
(217,204
)
Payment of preferred stock dividends
   
(2,451
)
  
(2,451
)
Net proceeds from notes payable
   
46,320
   
265,891
 
Exercise of employee stock options
   
8,674
   
5,814
 
Proceeds from employee stock purchases
   
31
   
1
 
Net cash (used in) provided by financing activities
   
(166,966
)
  
52,051
 
               
Effect of exchange rate changes on cash and cash investments
   
(1,545
)
  
(8,280
)
               
NET INCREASE (DECREASE) IN CASH AND CASH INVESTMENTS
   
1,549
   
(25,693
)
CASH AND CASH INVESTMENTS, beginning of period
   
17,635
   
37,136
 
CASH AND CASH INVESTMENTS, end of period
 
$
19,184
  
$
11,443
  
               
The accompanying notes are an integral part of these statements.
 

CONSTELLATION BRANDS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2005

1)
MANAGEMENT’S REPRESENTATIONS:

The consolidated financial statements included herein have been prepared by Constellation Brands, Inc. and its subsidiaries (the “Company”), without audit, pursuant to the rules and regulations of the Securities and Exchange Commission applicable to quarterly reporting on Form 10-Q and reflect, in the opinion of the Company, all adjustments necessary to present fairly the financial information for the Company. All such adjustments are of a normal recurring nature. Certain information and footnote disclosures normally included in financial statements, prepared in accordance with generally accepted accounting principles, have been condensed or omitted as permitted by such rules and regulations. These consolidated financial statements and related notes should be read in conjunction with the consolidated financial statements and related notes included in the Company’s Annual Report on Form 10-K for the fiscal year ended February 28, 2005. Results of operations for interim periods are not necessarily indicative of annual results.
 
During April 2005, the Board of Directors approved two-for-one stock splits of the Company’s Class A Common Stock and Class B Convertible Common Stock, which were distributed in the form of stock dividends on May 13, 2005, to stockholders of record on April 29, 2005. Share and per share amounts are adjusted to give effect to these common stock splits.

2)     ACQUISITIONS:

On December 22, 2004, the Company acquired all of the outstanding capital stock of The Robert Mondavi Corporation (“Robert Mondavi”), a leading premium wine producer based in Napa, California. In connection with the production of its products, Robert Mondavi owns, operates and has an interest in certain wineries and controls certain vineyards. Robert Mondavi produces, markets and sells premium, super premium and fine California wines under the Woodbridge by Robert Mondavi, Robert Mondavi Private Selection and Robert Mondavi Winery brand names.

The acquisition of Robert Mondavi supports the Company’s strategy of strengthening the breadth of its portfolio across price segments to capitalize on the overall growth in the premium, super-premium and fine wine categories. The Company believes that the acquired Robert Mondavi brand names have strong brand recognition globally. The vast majority of Robert Mondavi’s sales are generated in the United States. The Company intends to leverage the Robert Mondavi brands in the United States through its selling, marketing and distribution infrastructure. The Company also intends to further expand distribution for the Robert Mondavi brands in Europe through its Constellation Europe infrastructure.

The Company and Robert Mondavi have complementary businesses that share a common growth orientation and operating philosophy. The Robert Mondavi acquisition provides the Company with a greater presence in the fine wine sector within the United States and the ability to capitalize on the broader geographic distribution in strategic international markets. The Robert Mondavi acquisition supports the Company’s strategy of growth and breadth across categories and geographies, and strengthens its competitive position in its core markets. In particular, the Company believes there are growth opportunities for premium, super-premium and fine wines in the United Kingdom, United States and other wine markets. Total consideration paid in cash to the Robert Mondavi shareholders was $1,030.7 million. Additionally, the Company expects to incur direct acquisition costs of $11.2 million. The purchase price was financed with borrowings under the Company’s 2004 Credit Agreement (as defined in Note 6). In accordance with the purchase method of accounting, the acquired net assets are recorded at fair value at the date of acquisition. The purchase price was based primarily on the estimated future operating results of Robert Mondavi, including the factors described above, as well as an estimated benefit from operating cost synergies.

The results of operations of the Robert Mondavi business are reported in the Constellation Wines segment and have been included in the Consolidated Statement of Income since the acquisition date.

The following table summarizes the estimated fair values of the assets acquired and liabilities assumed in the Robert Mondavi acquisition at the date of acquisition. The Company is in the process of obtaining third-party valuations of certain assets and liabilities, and refining its restructuring plan which is under development and will be finalized during the Company’s year ending February 28, 2006 (see Note 13). Accordingly, the allocation of the purchase price is subject to refinement. Estimated fair values at December 22, 2004, are as follows:

(in thousands)
      
Current assets
  
$
506,190
  
Property, plant and equipment
    
438,865
  
Other assets
    
179,881
  
Trademarks
    
186,000
  
Goodwill
    
571,903
  
Total assets acquired
    
1,882,839
  
         
Current liabilities
    
304,330
  
Long-term liabilities
    
536,648
  
Total liabilities assumed
    
840,978
  
         
Net assets acquired
  
$
1,041,861
  

The trademarks are not subject to amortization. None of the goodwill is expected to be deductible for tax purposes.

In connection with the Robert Mondavi acquisition and Robert Mondavi’s previously disclosed intention to sell certain of its winery properties and related assets, and other vineyard properties, the Company has classified certain assets as held for sale as of May 31, 2005. The Company realized net proceeds of $145.4 million from the sale of certain of these assets during the three months ended May 31, 2005. In total, the Company expects to receive net proceeds of approximately $150 million to $175 million from the sale of these assets during the year ending February 28, 2006. No gain or loss is expected to be recognized upon the sale of these assets.
 
The following table sets forth the unaudited historical and unaudited pro forma results of operations of the Company for the three months ended May 31, 2005, and May 31, 2004, respectively. The unaudited pro forma results of operations for the three months ended May 31, 2004, give effect to the Robert Mondavi acquisition as if it occurred on March 1, 2004. The unaudited pro forma results of operations are presented after giving effect to certain adjustments for depreciation, amortization of deferred financing costs, interest expense on the acquisition financing, interest expense associated with adverse grape contracts, and related income tax effects. The unaudited pro forma results of operations are based upon currently available information and certain assumptions that the Company believes are reasonable under the circumstances. The unaudited pro forma results of operations for the three months ended May 31, 2004, do not reflect total pretax nonrecurring charges of $21.9 million ($0.07 per share on a diluted basis) related to transaction costs, primarily for the acceleration of vesting of stock options, legal fees and investment banker fees, all of which were incurred by Robert Mondavi prior to the acquisition. The unaudited pro forma results of operations do not purport to present what the Company’s results of operations would actually have been if the aforementioned transactions had in fact occurred on such date or at the beginning of the period indicated, nor do they project the Company’s financial position or results of operations at any future date or for any future period.

 
   
For the Three Months
Ended May 31,
  
   
2005
  
2004
  
(in thousands, except per share data)
          
Net sales
  
$
1,096,535
  
$
1,042,918
  
Income before income taxes
  
$
91,986
  
$
93,502
  
Net income
  
$
75,699
  
$
59,958
  
Income available to common stockholders
  
$
73,248
  
$
57,507
  
               
Earnings per common share - basic:
              
Class A Common Stock
  
$
0.34
  
$
0.27
  
Class B Common Stock
  
$
0.31
  
$
0.25
  
Earnings per common share - diluted
  
$
0.32
  
$
0.26
  
               
Weighted average common shares outstanding - basic:
              
Class A Common Stock
    
195,567
    
189,440
  
Class B Common Stock
    
23,955
    
24,117
  
Weighted average common shares outstanding - diluted:
    
238,154
    
230,123
  

3)
INVENTORIES:

Inventories are stated at the lower of cost (computed in accordance with the first-in, first-out method) or market. Elements of cost include materials, labor and overhead and consist of the following:

   
May 31,
2005
  
February 28,
2005
  
(in thousands)
          
Raw materials and supplies
  
$
61,360
  
$
71,562
  
In-process inventories
    
1,000,849
    
957,567
  
Finished case goods
    
603,950
    
578,606
  
   
$
1,666,159
  
$
1,607,735
  

4)
GOODWILL:

The changes in the carrying amount of goodwill for the three months ended May 31, 2005, are as follows:

   
Constellation
Wines
  
Constellation
Beers and
Spirits
  
Consolidated
  
(in thousands)
              
Balance, February 28, 2005
  
$
2,031,244
  
$
151,425
  
$
2,182,669
  
Purchase accounting allocations
    
(18,556
)
  
-
    
(18,556
)
Foreign currency translation adjustments
    
(45,932
)
  
(236
)
  
(46,168
)
Purchase price earn-out
    
631
    
-
    
631
  
Balance, May 31, 2005
  
$
1,967,387
  
$
151,189
  
$
2,118,576
  



5)
INTANGIBLE ASSETS:

The major components of intangible assets are:

   
May 31, 2005
  
February 28, 2005
  
   
Gross
Carrying
Amount
  
Net
Carrying
Amount
  
Gross
Carrying
Amount
  
Net
Carrying
Amount
  
(in thousands)
                  
Amortizable intangible assets:
                  
Distributor relationships
  
$
3,700
  
$
3,649
  
$
3,700
  
$
3,679
  
Distribution agreements
    
11,844
    
1,344
    
12,884
    
1,666
  
Other
    
5,214
    
1,192
    
5,230
    
1,229
  
Total
  
$
20,758
    
6,185
  
$
21,814
    
6,574
  
                           
Nonamortizable intangible assets:
                          
Trademarks
          
904,553
          
920,664
  
Agency relationships
          
18,412
          
18,412
  
Total
          
922,965
          
939,076
  
Total intangible assets
        
$
929,150
        
$
945,650
  

The difference between the gross carrying amount and net carrying amount for each item presented is attributable to accumulated amortization. Amortization expense for intangible assets was $0.4 million and $0.8 million for the three months ended May 31, 2005, and May 31, 2004, respectively. Estimated amortization expense for the remaining nine months of fiscal 2006 and for each of the five succeeding fiscal years is as follows:

(in thousands)
      
2006
  
$
1,306
  
2007
  
$
703
  
2008
  
$
387
  
2009
  
$
374
  
2010
  
$
352
  
2011
  
$
123
  
Thereafter
  
$
2,940
  

 
6)
BORROWINGS:

Senior credit facility -
In connection with the acquisition of Robert Mondavi, on December 22, 2004, the Company and its U.S. subsidiaries (excluding certain inactive subsidiaries), together with certain of its subsidiaries organized in foreign jurisdictions, JPMorgan Chase Bank, N.A. as a lender and administrative agent, and certain other agents, lenders, and financial institutions entered into a new credit agreement (the “2004 Credit Agreement”). The 2004 Credit Agreement provides for aggregate credit facilities of $2.9 billion, consisting of a $600.0 million tranche A term loan facility due in November 2010, a $1.8 billion tranche B term loan facility due in November 2011, and a $500.0 million revolving credit facility (including a sub-facility for letters of credit of up to $60.0 million) which terminates in December 2010. Proceeds of the 2004 Credit Agreement were used to pay off the Company’s obligations under its prior senior credit facility, to fund the cash consideration payable in connection with its acquisition of Robert Mondavi, and to pay certain obligations of Robert Mondavi, including indebtedness outstanding under its bank facility and unsecured notes of $355.4 million. The Company uses the remaining availability under the 2004 Credit Agreement to fund its working capital needs on an as needed basis.

The tranche A term loan facility and the tranche B term loan facility were fully drawn on December 22, 2004. As of May 31, 2005, the required principal repayments of the tranche A term loan and the tranche B term loan are as follows:

   
Tranche A
Term Loan
  
Tranche B
Term Loan
  
Total
  
(in thousands)
              
2006
  
$
45,000
  
$
-
  
$
45,000
  
2007
    
67,500
    
-
    
67,500
  
2008
    
97,500
    
15,299
    
112,799
  
2009
    
120,000
    
15,299
    
135,299
  
2010
    
127,500
    
15,299
    
142,799
  
Thereafter
    
112,500
    
1,449,603
    
1,562,103
  
   
$
570,000
  
$
1,495,500
  
$
2,065,500
  

The rate of interest payable, at the Company’s option, is a function of LIBOR plus a margin, the federal funds rate plus a margin, or the prime rate plus a margin. The margin is adjustable based upon the Company’s debt ratio (as defined in the 2004 Credit Agreement) and, with respect to LIBOR borrowings, ranges between 1.00% and 1.75%. As of May 31, 2005, the LIBOR margin for the revolving credit facility and the tranche A term loan facility is 1.50%, while the LIBOR margin on the tranche B term loan facility is 1.75%.

The Company’s obligations are guaranteed by substantially all of  its U.S. subsidiaries and by certain of its foreign subsidiaries. These obligations are also secured by a pledge of (i) 100% of the ownership interests in most of the Company’s U.S. subsidiaries and (ii) 65% of the voting capital stock of certain of the Company’s foreign subsidiaries.

The Company and its subsidiaries are also subject to customary lending covenants including those restricting additional liens, the incurrence of additional indebtedness (including guarantees of indebtedness), the sale of assets, the payment of dividends, transactions with affiliates, the disposition and acquisition of property and the making of certain investments, in each case subject to numerous baskets, exceptions and thresholds. The financial covenants are limited to maximum total debt and senior debt coverage ratios and minimum fixed charges and interest coverage ratios. As of May 31, 2005, the Company is in compliance with all of its covenants under its 2004 Credit Agreement.

As of May 31, 2005, under the 2004 Credit Agreement, the Company had outstanding tranche A term loans of $570.0 million bearing a weighted average interest rate of 4.3%, tranche B term loans of $1,495.5 million bearing a weighted average interest rate of 5.0%, revolving loans of $54.0 million bearing a weighted average interest rate of 4.4%, undrawn revolving letters of credit of $36.2 million, and $409.8 million in revolving loans available to be drawn.

At February 28, 2005, the Company had outstanding five year interest rate swap agreements to minimize interest rate volatility. The swap agreements fixed LIBOR interest rates on $1,200.0 million of the Company’s floating LIBOR rate debt at an average rate of 4.1% over the five-year term. In March 2005, the Company monetized the value of the interest rate swaps by replacing them with new five year delayed start interest rate swap agreements effective March 1, 2006, which extended the hedged period through fiscal 2010. The Company received $30.3 million in proceeds from the unwinding of the original swaps. This amount will be reclassified from AOCI (as defined in Note 11) ratably into earnings in the same period in which the original hedged item is recorded in the Consolidated Statement of Income. The effective interest rate remains the same under the new swap structure at 4.1%.


Foreign subsidiary facilities -
The Company has additional credit arrangements available totaling $177.2 million as of May 31, 2005. These arrangements support the financing needs of certain of the Company’s foreign subsidiary operations. Interest rates and other terms of these borrowings vary from country to country, depending on local market conditions. As of May 31, 2005, amounts outstanding under the foreign subsidiary credit arrangements were $38.0 million.

7)
INCOME TAXES:

The Company’s effective tax rate for the three months ended May 31, 2005, and May 31, 2004, was 17.7% and 36.0%, respectively. The lower effective tax rate for the three months ended May 31, 2005, was primarily due to adjustments to income tax accruals of $16.2 million in connection with the completion of various income tax examinations.
 
8)
RETIREMENT SAVINGS PLANS AND POSTRETIREMENT BENEFIT PLANS:

Net periodic benefit costs reported in the Consolidated Statements of Income for the Company’s defined benefit pension plans include the following components:

   
For the Three Months
Ended May 31,
  
   
2005
  
2004
  
(in thousands)
          
Service cost
  
$
540
  
$
543
  
Interest cost
    
4,582
    
3,975
  
Expected return on plan assets
    
(4,407
)
  
(4,201
)
Amortization of prior service cost
    
48
    
2
  
Recognized net actuarial loss
    
746
    
621
  
Net periodic benefit cost
  
$
1,509
  
$
940
  

Net periodic benefit costs reported in the Consolidated Statements of Income for the Company’s unfunded postretirement benefit plans include the following components:

   
For the Three Months
Ended May 31,
  
   
2005
  
2004
  
(in thousands)
          
Service cost
  
$
53
  
$
52
  
Interest cost
    
76
    
83
  
Amortization of prior service cost
    
(14
)
  
2
  
Recognized net actuarial loss
    
6
    
5
  
Net periodic benefit cost
  
$
121
  
$
142
  

Contributions of $2.1 million have been made by the Company to fund its defined benefit pension plans for the three months ended May 31, 2005. The Company presently anticipates contributing an additional $6.2 million to fund its defined benefit pension plans during the year ending February 28, 2006, resulting in total employer contributions of $8.3 million for the year ending February 28, 2006.

9)
EARNINGS PER COMMON SHARE:

Basic earnings per common share excludes the effect of common stock equivalents and is computed using the two-class computation method. Diluted earnings per common share reflects the potential dilution that could result if securities or other contracts to issue common stock were exercised or converted into common stock. Diluted earnings per common share assumes the exercise of stock options using the treasury stock method and the conversion of Class B Convertible Common Stock and Preferred Stock using the “if converted” method.
 
The computation of basic and diluted earnings per common share is as follows:

   
For the Three Months
Ended May 31,
  
   
2005
  
2004
  
(in thousands, except per share data)
          
Net income
  
$
75,699
  
$
51,329
  
Dividends on preferred stock
    
(2,451
)
  
(2,451
)
Income available to common stockholders
  
$
73,248
  
$
48,878
  
               
Weighted average common shares outstanding - basic:
              
Class A Common Stock
    
195,567
    
189,440
  
Class B Convertible Common Stock
    
23,955
    
24,117
  
Total weighted average common shares outstanding - basic
    
219,522
    
213,557
  
Stock options
    
8,649
    
6,583
  
Preferred stock
    
9,983
    
9,983
  
Weighted average common shares outstanding - diluted
    
238,154
    
230,123
  
               
Earnings per common share - basic:
              
Class A Common Stock
  
$
0.34
  
$
0.23
  
Class B Convertible Common Stock
  
$
0.31
  
$
0.21
  
Earnings per common share - diluted
  
$
0.32
  
$
0.22
  

Stock options to purchase 3.7 million and 4.9 million shares of Class A Common Stock at a weighted average price per share of $27.24 and $16.63 were outstanding during the three months ended May 31, 2005, and May 31, 2004, respectively, but were not included in the computation of the diluted earnings per common share because the stock options’ exercise price was greater than the average market price of the Class A Common Stock for the period.

10)
STOCK-BASED COMPENSATION:

The Company applies the intrinsic value method described in Accounting Principles Board Opinion No. 25 (“APB No. 25”), “Accounting for Stock Issued to Employees,” and related interpretations in accounting for its stock-based employee compensation plans. In accordance with APB No. 25, the compensation cost for stock options is recognized in income based on the excess, if any, of the quoted market price of the stock at the grant date of the award or other measurement date over the amount an employee must pay to acquire the stock. The Company utilizes the disclosure-only provisions of Statement of Financial Accounting Standards No. 123 (“SFAS No. 123”), “Accounting for Stock-Based Compensation,” as amended. (See Note 16 for additional discussion regarding Statement of Financial Accounting Standards No. 123 (revised 2004) (“SFAS No. 123(R)”), “Share-Based Payment,” which will become effective for the Company beginning March 1, 2006). Options granted under the Company’s stock option plans have an exercise price equal to the market value of the underlying common stock on the date of grant; therefore, no incremental compensation expense has been recognized for grants made to employees under the Company’s stock option plans. The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value recognition provisions of SFAS No. 123 to stock-based employee compensation.



   
For the Three Months
Ended May 31,
  
   
2005
  
2004
  
(in thousands, except per share data)
          
Net income, as reported
  
$
75,699
  
$
51,329
  
Add: Stock-based employee compensation expense included
in reported net income, net of related tax effects
    
7
    
15
  
Deduct: Total stock-based employee compensation expense
determined under fair value based method for all awards,
net of related tax effects
    
(3,328
)
  
(2,634
)
Pro forma net income
  
$
72,378
  
$
48,710
  
               
Earnings per common share - basic:
              
Class A Common Stock, as reported
  
$
0.34
  
$
0.23
  
Class B Convertible Common Stock, as reported
  
$
0.31
  
$
0.21
  
               
Class A Common Stock, pro forma
  
$
0.32
  
$
0.22
  
Class B Convertible Common Stock, pro forma
  
$
0.29
  
$
0.20
  
               
Earnings per common share - diluted, as reported
  
$
0.32
  
$
0.22
  
Earnings per common share - diluted, pro forma
  
$
0.30
  
$
0.21
  

11)
COMPREHENSIVE (LOSS) INCOME:

Comprehensive (loss) income consists of net income, foreign currency translation adjustments, net unrealized gains or losses on derivative instruments, net unrealized gains or losses on available-for-sale marketable equity securities and minimum pension liability adjustments. The reconciliation of net income to comprehensive (loss) income is as follows:

   
For the Three Months
Ended May 31,
  
   
2005 
  
2004 
  
(in thousands)
          
Net income
  
$
75,699
  
$
51,329
  
Other comprehensive (loss) income, net of tax:
              
Foreign currency translation adjustments, net of tax
benefit of $23,458 and $16,498, respectively
    
(113,424
)
  
(104,745
)
Cash flow hedges:
              
Net derivative losses, net of tax benefit of $7,327
and $9,464, respectively
    
(12,661
)
  
(21,896
)
Reclassification adjustments, net of tax benefit
(expense) of $1,086 and ($1,503), respectively
    
(2,252
)
  
3,411
  
Net cash flow hedges
    
(14,913
)
  
(18,485
)
Unrealized gains on marketable equity securities, net of
tax expense of $78
    
-
    
182
  
Minimum pension liability adjustment, net of tax expense
of ($1,792) and ($498), respectively
    
4,175
    
1,131
  
Total comprehensive (loss) income
  
$
(48,463
)
$
(70,588
)



Accumulated other comprehensive income (loss) (“AOCI”), net of tax effects, includes the following components:

   
Foreign
Currency
Translation
Adjustments
  
Net
Unrealized
Gains on
Derivatives
  
Unrealized
(Loss) Gain
on Marketable
Equity
Securities
  
Minimum
Pension
Liability
Adjustment
  
Accumulated
Other
Comprehensive
Income (Loss)
  
(in thousands)
                      
Balance, February 28, 2005
  
$
473,949
  
$
37,316
  
$
-
  
$
(79,422
)
$
431,843
  
Current period change
    
(113,424
)
  
(14,913
)
  
-
    
4,175
    
(124,162
)
Balance, May 31, 2005
  
$
360,525
  
$
22,403
  
$
-
  
$
(75,247
)
$
307,681
  

12)    ACQUISITION-RELATED INTEGRATION COSTS:

For the three months ended May 31, 2005, the Company recorded $6.4 million of acquisition-related integration costs associated with the Company’s decision to restructure and integrate the operations of Robert Mondavi (the “Robert Mondavi Plan”). Acquisition-related integration costs included $1.4 million of employee-related costs and $5.0 million of facilities and other one-time costs.

13)
RESTRUCTURING AND RELATED CHARGES:

For the three months ended May 31, 2005, the Company recorded $1.9 million of restructuring and related charges associated primarily with the Robert Mondavi Plan which included $1.2 million of employee termination benefit costs and $0.7 million of facility consolidation and relocation costs. For the three months ended May 31, 2004, the Company recorded $1.6 million of restructuring and related charges associated with the realignment of business operations within the Constellation Wines segment.

The Company is in the process of refining the Robert Mondavi Plan which will be finalized during the Company's year ending February 28, 2006.  Subject to the finalization of the Robert Mondavi Plan, which could result in additional restructuring charges, the Company estimates that the restructuring plans will include (i) a total of $14.1 million of employee termination benefit costs through February 28, 2006, of which $11.7 million has been incurred through May 31, 2005, (ii) a total of $19.2 million of contract termination costs, all of which were incurred through February 28, 2005, and (iii) a total of $4.2 million of facility consolidation and relocation costs through February 28, 2006, of which $3.6 million has been incurred through May 31, 2005.
 
The following table illustrates the changes in the restructuring liability balance since February 28, 2005:

 
   
Employee
Termination
Benefit
Costs
  
Contract
Termination
Costs
  
Facility
Consolidation/
Relocation
Costs
  
Total
  
(in thousands)
                  
Balance, February 28, 2005
  
$
15,270
  
$
23,204
  
$
743
  
$
39,217
  
Robert Mondavi acquisition
    
635
    
658
    
459
    
1,752
  
Restructuring charges
    
1,176
    
-
    
704
    
1,880
  
Cash expenditures
    
(9,506
)
  
(5,016
)
  
(161
)
  
(14,683
)
Foreign currency adjustments
    
(36
)
  
(115
)
  
(42
)
  
(193
)
Balance, May 31, 2005
  
$
7,539
  
$
18,731
  
$
1,703
  
$
27,973
  




14)
CONDENSED CONSOLIDATING FINANCIAL INFORMATION:

The following information sets forth the condensed consolidating balance sheets as of May 31, 2005, and February 28, 2005, the condensed consolidating statements of income for the three months ended May 31, 2005, and May 31, 2004, and the condensed consolidating statements of cash flows for the three months ended May 31, 2005, and May 31, 2004, for the Company, the parent company, the combined subsidiaries of the Company which guarantee the Company’s senior notes and senior subordinated notes (“Subsidiary Guarantors”) and the combined subsidiaries of the Company which are not Subsidiary Guarantors, primarily Matthew Clark and Hardy and their subsidiaries, which are included in the Constellation Wines segment (“Subsidiary Nonguarantors”). The Subsidiary Guarantors are wholly owned and the guarantees are full, unconditional, joint and several obligations of each of the Subsidiary Guarantors. Separate financial statements for the Subsidiary Guarantors of the Company are not presented because the Company has determined that such financial statements would not be material to investors. The accounting policies of the parent company, the Subsidiary Guarantors and the Subsidiary Nonguarantors are the same as those described for the Company in the Summary of Significant Accounting Policies in Note 1 to the Company’s consolidated financial statements included in the Company’s Annual Report on Form 10-K for the fiscal year ended February 28, 2005. There are no restrictions on the ability of the Subsidiary Guarantors to transfer funds to the Company in the form of cash dividends, loans or advances.
 
   
Parent
Company
  
Subsidiary
Guarantors
  
Subsidiary
Nonguarantors
  
Eliminations
  
Consolidated
  
(in thousands)
                      
Condensed Consolidating Balance Sheet at May 31, 2005
  
Current assets:
                      
Cash and cash investments
  
$
3,962
  
$
8,866
  
$
6,356
  
$
-
  
$
19,184
  
Accounts receivable, net
    
150,115
    
228,219
    
443,889
    
-
    
822,223
  
Inventories
    
39,214
    
920,102
    
717,248
    
(10,405
)
  
1,666,159
  
Prepaid expenses and other
current assets
    
1,490
    
146,688
    
63,394
    
-
    
211,572
  
Intercompany receivable (payable)
    
284,899
    
(888,656
)
  
603,757
    
-
    
-
  
Total current assets
    
479,680
    
415,219
    
1,834,644
    
(10,405
)
  
2,719,138
  
Property, plant and equipment, net
    
37,622
    
761,984
    
649,906
    
-
    
1,449,512
  
Investments in subsidiaries
    
4,997,506
    
1,865,933
    
-
    
(6,863,439
)
  
-
  
Goodwill
    
-
    
1,224,222
    
894,354
    
-
    
2,118,576
  
Intangible assets, net
    
-
    
586,686
    
342,464
    
-
    
929,150
  
Other assets, net
    
28,639
    
182,469
    
73,960
    
-
    
285,068
  
Total assets
  
$
5,543,447
  
$
5,036,513
  
$
3,795,328
  
$
(6,873,844
)
$
7,501,444
  
                                 
Current liabilities:
                                
Notes payable to banks
  
$
54,000
  
$
-
  
$
8,607
  
$
-
  
$
62,607
  
Current maturities of long-term debt
    
60,069
    
4,104
    
3,715
    
-
    
67,888
  
Accounts payable
    
4,058
    
114,953
    
268,166
    
-
    
387,177
  
Accrued excise taxes
    
8,453
    
24,305
    
26,239
    
-
    
58,997
  
Other accrued expenses and liabilities
    
92,789
    
180,888
    
286,780
    
(3,296
)
  
557,161
  
Total current liabilities
    
219,369
    
324,250
    
593,507
    
(3,296
)
  
1,133,830
  
Long-term debt, less current maturities
    
2,936,774
    
6,302
    
25,716
    
-
    
2,968,792
  
Deferred income taxes
    
(5,543
)
  
357,970
    
29,628
    
-
    
382,055
  
Other liabilities
    
1,215
    
139,689
    
133,653
    
-
    
274,557
  




   
Parent
Company
  
Subsidiary
Guarantors
  
Subsidiary
Nonguarantors
  
Eliminations
  
Consolidated
  
(in thousands)
                      
Stockholders’ equity:
                      
Preferred stock
    
2
    
-
    
-
    
-
    
2
  
Class A and Class B common stock
    
2,298
    
6,443
    
141,583
    
(148,026
)
  
2,298
  
Additional paid-in capital
    
1,110,327
    
2,301,961
    
2,498,737
    
(4,800,698
)
  
1,110,327
  
Retained earnings
    
1,359,284
    
1,753,673
    
161,042
    
(1,923,898
)
  
1,350,101
  
Accumulated other comprehensive
(loss) income
    
(52,080
)
  
146,225
    
211,462
    
2,074
    
307,681
  
Treasury stock and other
    
(28,199
)
  
-
    
-
    
-
    
(28,199
)
Total stockholders’ equity
    
2,391,632
    
4,208,302
    
3,012,824
    
(6,870,548
)
  
2,742,210
  
Total liabilities and
stockholders’ equity
  
$
5,543,447
  
$
5,036,513
  
$
3,795,328
  
$
(6,873,844
)
$
7,501,444
  
                                 
Condensed Consolidating Balance Sheet at February 28, 2005
Current assets:
                                
Cash and cash investments
  
$
-
  
$
10,095
  
$
7,540
  
$
-
  
$
17,635
  
Accounts receivable, net
    
132,997
    
293,588
    
423,057
    
-
    
849,642
  
Inventories
    
35,719
    
943,711
    
637,556
    
(9,251
)
  
1,607,735
  
Prepaid expenses and other
current assets
    
41,515
    
163,910
    
53,598
    
-
    
259,023
  
Intercompany receivable (payable)
    
450,781
    
(1,111,951
)
  
661,170
    
-
    
-
  
Total current assets
    
661,012
    
299,353
    
1,782,921
    
(9,251
)
  
2,734,035
  
Property, plant and equipment, net
    
37,476
    
884,690
    
674,201
    
-
    
1,596,367
  
Investments in subsidiaries
    
4,961,521
    
1,844,354
    
-
    
(6,805,875
)
  
-
  
Goodwill
    
-
    
1,242,132
    
940,537
    
-
    
2,182,669
  
Intangible assets, net
    
-
    
587,075
    
358,575
    
-
    
945,650
  
Other assets, net
    
28,559
    
221,642
    
95,250
    
-
    
345,451
  
Total assets
  
$
5,688,568
  
$
5,079,246
  
$
3,851,484
  
$
(6,815,126
)
$
7,804,172
  
                                 
Current liabilities:
                                
Notes payable to banks
  
$
14,000
  
$
-
  
$
2,475
  
$
-
  
$
16,475
  
Current maturities of long-term debt
    
60,068
    
4,307
    
3,719
    
-
    
68,094
  
Accounts payable
    
4,237
    
146,116
    
194,901
    
-
    
345,254
  
Accrued excise taxes
    
13,633
    
41,070
    
19,653
    
-
    
74,356
  
Other accrued expenses and liabilities
    
146,837
    
191,438
    
298,529
    
(2,896
)
  
633,908
  
Total current liabilities
    
238,775
    
382,931
    
519,277
    
(2,896
)
  
1,138,087
  
Long-term debt, less current maturities
    
3,167,852
    
9,089
    
27,766
    
-
    
3,204,707
  
Deferred income taxes
    
(17,255
)
  
377,423
    
29,718
    
-
    
389,886
  
Other liabilities
    
1,101
    
126,173
    
164,305
    
-
    
291,579
  
Stockholders’ equity:
                                
Preferred stock
    
2
    
-
    
-
    
-
    
2
  
Class A and Class B common stock
    
2,288
    
6,443
    
141,583
    
(148,026
)
  
2,288
  
Additional paid-in capital
    
1,097,177
    
2,301,961
    
2,498,737
    
(4,800,698
)
  
1,097,177
  
Retained earnings
    
1,285,762
    
1,715,182
    
141,969
    
(1,866,060
)
  
1,276,853
  
Accumulated other comprehensive
(loss) income
    
(58,884
)
  
160,044
    
328,129
    
2,554
    
431,843
  
Treasury stock and other
    
(28,250
)
  
-
    
-
    
-
    
(28,250
)
Total stockholders’ equity
    
2,298,095
    
4,183,630
    
3,110,418
    
(6,812,230
)
  
2,779,913
  
Total liabilities and
stockholders’ equity
  
$
5,688,568
  
$
5,079,246
  
$
3,851,484
  
$
(6,815,126
)
$
7,804,172
  

   
Parent
Company
  
Subsidiary
Guarantors
  
Subsidiary
Nonguarantors
  
Eliminations
  
Consolidated
  
(in thousands)
                      
Condensed Consolidating Statement of Income for the Three Months Ended May 31, 2005
  
Gross sales
  
$
247,953
  
$
701,840
  
$
670,689
  
$
(254,173
)
$
1,366,309
  
Less - excise taxes
    
(33,400
)
  
(110,094
)
  
(126,280
)
  
-
    
(269,774
)
Net sales
    
214,553
    
591,746
    
544,409
    
(254,173
)
  
1,096,535
  
Cost of product sold
    
(176,656
)
  
(419,515
)
  
(448,179
)
  
253,821
    
(790,529
)
Gross profit
    
37,897
    
172,231
    
96,230
    
(352
)
  
306,006
  
Selling, general and administrative
expenses
    
(37,947
)
  
(62,114
)
  
(57,803
)
  
-
    
(157,864
)
Acquisition-related integration costs
    
-
    
(6,428
)
  
(11
)
  
-
    
(6,439
)
Restructuring and related charges
    
-
    
(1,191
)
  
(689
)
  
-
    
(1,880
)
Operating (loss) income
   
(50
)
  
102,498
    
37,727
    
(352
)
  
139,823
  
Equity in earnings (loss) of equity
method investees and subsidiaries
    
35,985
    
22,107
    
(1,071
)
  
(57,563
)
  
(542
)
Interest income (expense), net
    
36,840
    
(75,416
)
  
(8,719
)
  
-
    
(47,295
)
Income before income taxes
    
72,775
    
49,189
    
27,937
    
(57,915
)
  
91,986
  
Benefit from (provision for)
income taxes
    
3,198
    
(10,698
)
  
(8,864
)
  
77
    
(16,287
)
Net income
    
75,973
    
38,491
    
19,073
    
(57,838
)
  
75,699
  
Dividends on preferred stock
    
(2,451
)
  
-