Morning, and welcome to the Mondelez International Second Quarter 2016 Earnings Conference Call. Today's call is scheduled to last about 1 hour, including remarks by Mondelez Management and the question and answer session. I'd now like to turn the call over to Mr. Brian Gladden, EVP and CFO for Mondelez International. Please go ahead, sir.
Great. Thank you, Paula. Good morning and thanks for joining us. Before we get started, I wanted to take a moment to thank Dexter Convale for his many contributions to our company throughout the years, including most recently running both Treasury and Investor Relations. As most of you know, Dexter will be leaving us this month.
He's been a trusted partner. We'll wish him the very best, both personally and professionally. I'd also like to introduce Shep Dunlap, who's joined us as our VP of Investor Relations. Shep brings a great set of skills and experience, and I'm sure you'll enjoy working with him as he settles into his new role With that, let me turn the call over to Shep to get started.
Thanks for the introduction, Brian, and I'm happy to be here. Earlier today, we sent out our earnings release and presentation slides, which are also available on our website, mondelezinternational.com. As you know, during this call, we will make forward looking statements about the company's performance. These statements are based on how we see things today. Actual results may differ materially due to risks and uncertainties.
Please refer to the cautionary statements and risk factors contained in our 10 ks and our 10 Q filings for more details on our forward looking statements. Some of today's prepared remarks include non GAAP financial measures. You can find the GAAP to non GAAP reconciliations within our earnings release and at the back of the slide presentation. With that, I'll now turn the call over to our Chairman and CEO, Irene Rosenthal.
Thanks, Jeff, and good morning. Despite a challenging environment, we continue to deliver solid results and we're confident in delivering our 2016 outlook and our 2018 margin targets. I'm pleased with the progress made by our teams in reinventing our supply chain, reducing overheads and reinvesting in growth. Our strategy is working, driving strong near term margin performance, providing fuel for investment and positioning us to sustainably deliver top and bottom line growth. Long term, we expect our advantaged platform together with an ongoing focus on growth and margin expansion to drive organic net revenue atoraboveourcategoryrates, double digit adjusted EPS growth, improving cash generation and significant return of capital to our shareholders through share repurchases and dividends.
With that as context, let's review the highlights of the 2nd quarter. Organic revenue grew 1.5%, including the negative impact of about a point from revenue management actions. Through the first half, our growth rate was 1.9%. Our power brands once again drove our top line, up 3% and in line with global categories. Emerging markets rose nearly 4%, fueled by currency driven pricing in markets like Argentina and Russia.
Developed markets were essentially flat, but delivered another positive quarter of vol mix, while continuing to significantly expand margins. Our overall share performance was not yet where we wanted it to be, but we began to see meaningful improvements in a number of key markets, like chocolate in the UK, Germany, Australia and India, as well as biscuits in Europe and globally across our gum and candy business. This progress was partially offset by declines in some large markets, such as U. S. Biscuits and Brazil, where our near term share positions were negatively impacted by aggressive competitive trade promotions.
Brian will discuss market share in more detail in a moment. Adjusted OI margin for the 2nd quarter was strong, up 2 10 basis points versus prior year. Cost control has now become embedded in our culture, and we're firing on all cylinders, both in supply chain as well as in overheads. These first half results position us well for the full year. Our focus on cost enables us to expand margins while continuing to fuel growth.
In that spirit, let me take you through 2 exciting opportunities that will be important drivers going forward. 1st, we're delighted to announce the launch of our Milka brand into China's $2,800,000,000 chocolate market. This is a prime example of our growth strategy in action. As we've discussed, most of our emerging markets are 1 or 2 category countries. We added gum to our leading China biscuit business in the second half of twenty twelve.
And today, that business generates annual revenue of approximately $200,000,000 By leveraging a formidable power brand like Milka in a sizable category white space, we see significant potential for chocolate in a market where per capita consumption is quite low even by emerging market standards. We expect our unique brand assets, industry leading innovation, a new world class manufacturing facility and strong sales and marketing capabilities will not only grow our business, but will also accelerate the category. While chocolate in China has recently been challenged, we believe we are well positioned to succeed. Our plans have been presented to customers and will enter the market in the next few weeks, well before the critical Chinese New Year season. Finally, while only a small part of our business today, we have significantly bolstered our capabilities in e commerce.
Although online snacks are relatively underdeveloped, we believe e commerce will be increasingly important as consumer purchasing behavior changes. Our intent is to capture share in this fast growing channel by leveraging our strong brands and marketing know how. Since the start of the year, we've taken a number of steps, including enhancing our infrastructure, adding new experienced resources and building capability, strengthening our partnerships with Amazon in the U. S, Alibaba in China and with the e commerce arms of our traditional retailers, as well as accelerating gift offers with personalized packaging and subscriptions on brands like Cadbury in the UK. Early results are very encouraging.
In the first half, we grew our e commerce revenue by more than 30%. Looking ahead, our goal is snacking leadership in e commerce and over $1,000,000,000 in sales by 2020. The launch of chocolate in China and our progress in e commerce are just two examples of investments that are continuing to build and transform our advantage platform. Looking ahead, there's no question that the environment remains challenging, especially in emerging markets. We remain focused on what we can control, margin and share.
To that end, we're taking a number of actions that will impact the second half. These include increased A and C on our power brands, targeted investments in trade spending to narrow price gaps in key markets. Several significant innovation launches, including chocolate in China and continued expansion of our routes to market, including e commerce, all while continuing to drive cost reduction across the enterprise. We remain confident in our strategy and execution to grow both our top and bottom lines over the long term and to create significant value for our shareholders. Before I close, I know many of you would like an update on the potential transaction with Hershey.
While I can confirm that we did make an offer to Hershey, as you would expect regarding any potential M and A activity, we have no additional comments to make. With that, I'll turn the call over to Brian.
Thanks, Irene. We had solid financial results for the Q2 and the first half of the year. Specifically, we delivered another quarter of strong adjusted OI margin expansion and earnings growth. Adjusted gross margin of over 40 percent was flat in Q2 as the negative impact of mark to market as well as currency driven inflation offset another quarter of strong net productivity. In fact, our efforts to reinvent our supply chain and deploy advantaged manufacturing lines of the future continue to drive margin benefits as we delivered net productivity of better than 3.5% for the first half.
Q2 adjusted OI margin was 15.2%, up 2 10 basis points. This was largely driven by the ongoing ZBB impact on our overheads and especially our execution on shared service initiatives. In addition, the margin expansion included some one time favorable impacts from asset sales in North America. These proceeds more or less offset the negative impacts of mark to market and the cost of our U. S.
Labor related business continuity planning. We're pleased with our first half margin performance and are slightly ahead of our plan as our cost execution has exceeded expectations. We're also investing in additional A and C and selected incremental trade spending during the second half to support top line growth and improve share. Let me now provide some color on regional performance for both revenue and margins. North America had a very solid a very strong margin quarter.
Adjusted OI margins expanded by 4 70 basis points, driven by strong productivity, overhead cost reductions, as well as the previously mentioned asset sale benefit, offset somewhat by the U. S. Labor business continuity planning costs. We grew organic revenue nearly 1% driven by vol mix increases. Escalated trade spending by competitors negatively affected our short term results.
Overall, biscuits were up only modestly, but Oreo, Belvita and Triscuit all delivered solid consumption growth. Candy posted strong results driven by Sour Patch Kids and Halls. In gum, Trident turned in another quarter of solid performance and we began the relaunch of STRIDE late in the quarter, which should improve shares in the months ahead. As Irene mentioned, we have several strong programs in place to better position us for the second half. Europe also had an outstanding margin quarter with adjusted OI margin up 3.50 basis points to 18%, driven by strong productivity and lower overheads.
Organic revenue in Europe was essentially flat, although here too we're seeing a nice progression in ball mix and share trends. Both our chocolate and biscuit categories delivered strong results in the UK and Germany, which helped grow volmix by 70 basis points for the region. Building on last year's launch in the U. K, we also launched Ritz, Crisp and Thin crackers in France, which is delivering good results as we take the brand to a new consumption occasion. In EMEA, adjusted OI margins were flat, driven by weaker demand and the resulting volume leverage impact.
Organic revenue declined more than 2%, driven by a slowdown in the Middle East and North Africa where economic and geopolitical volatility including the impact of low oil prices is having a more pronounced effect on consumer demand. A very weak Ramadan season in the Middle East also tempered the top line. Despite that backdrop, Russia turned in a solid performance, growing low double digits as a result of pricing actions to offset inflation. In Asia Pacific, our adjusted OI margins were up 190 basis points driven by improved overheads, strong productivity and pricing. Organic revenue increased 2% and ball mix was positive, up more than 1%.
This is our 5th consecutive quarter of growth in Asia. India benefited from the launch of Chocolate also generated solid gains. Australia was also strong, while Southeast Asia was up for the 3rd straight quarter. Our Quinto business in Vietnam continues to be a bright spot. Our teams are executing well as we integrate this business, which provides a platform to drive our power brands through its distribution network of 130,000 outlets.
China declined low single digits as the biscuit category slowed and we lapped last year's Trident Thumb launch. While overall China consumer demand has recently slowed, we believe longer term dynamics will improve as evidenced by our significant investment in chocolate that Irene discussed earlier. In Latin America, adjusted OI margins declined 2 10 basis points. Difficult economic conditions in Brazil pressured margins in the form of currency and volume headwinds. Latin America organic revenue grew nearly 9%, led by strength in Argentina and Mexico.
Argentina grew double digits primarily due to inflation driven pricing, while Mexico had a strong first half and continued to gain momentum as strong ball mix contributed to high single digit revenue growth. Brazil declined low single digits and we see no short term catalyst for improvement in the Brazilian economy. We are taking actions to close selected price gaps, but we expect the market to remain challenging in terms of both revenue and margins at least through the second half. Let me spend a moment providing a few highlights by category. In aggregate, categories have slowed to about 3% year to date, driven by key emerging markets like Brazil, China and India.
Our global biscuits business grew nearly 2% with strength in the U. K, in the U. S. And Germany. OREO led the way growing high single digits.
In addition, we're continuing to drive our well-being portfolio. Velveeta grew high single digits globally, while our good thins innovation in the U. S. Also posted solid results. While our biscuit share has been challenged in some key markets, we have a number of actions underway to address the issue.
In the U. S, we're innovating across several winning biscuit platforms, while investing incremental trade spending behind our DSD execution. In Brazil, we're investing in additional advertising and consumer support, while selectively narrowing price gaps on key SKUs. Our focus remains on improving our We expect the incremental actions we're taking will improve our share position in the second half. Chocolate grew more than 2%, driven by solid results in India, Australia and the U.
K. Also in the quarter, Germany continued to deliver strong growth as we lapped last year's revenue management actions. More than half of our revenue in chocolate grew share. Gum and candy increased nearly 2%, led by solid performance in the U. S.
And Mexico. About half of our revenue in this category gained or held share. Now turning to earnings per share. For Q2, our adjusted EPS was up more than 4% on a constant currency basis, which includes the impact of coffee dilution. And in the first half, adjusted EPS increased 17% on a constant currency basis.
Operating gains of $0.15 were the primary driver of the improvement. Below the line, adjusted EPS declined $0.01 as dilution from last year's coffee deal more than offset benefits from lower share count, taxes and interest expense. Note that this will be the last quarter of coffee dilution as we lap the close of last year's coffee transactions. I would note that both JDE and Keurig performed well in the quarter and contributed some upside versus our expectations. In the Q2, we delivered more than $500,000,000 of free cash flow and improved our cash conversion cycle by 20 days to minus 4 days.
Returning
capital to
our shareholders remains a priority for us and we've returned more than $1,800,000,000 to shareholders through the first half. We've repurchased more than $1,300,000,000 in our shares at an average price of $41.07 And we continue to target $2,000,000,000 in share repurchases for the year. Last week, we also announced a 12% increase in our quarterly dividend. Dividends remain an important part of our capital return strategy as we target a payout of at least 30%. Since the spin, we've returned nearly $13,000,000,000 of cash to shareholders.
Let's take a closer look at our current outlook. As you've heard today, we feel good about our first half results and expect continued strong performance in the second half despite the macro backdrop, especially in the emerging markets. Specifically, we now expect the following for 2016. We've modestly reduced our organic net revenue growth outlook to approximately 2% from at least 2%. This reflects the increasing we're seeing in global categories and includes about 100 basis points from revenue management actions.
We continue to expect adjusted OI margin of 15% to 16% and are increasingly confident in delivering this commitment. As you think about the second half, we expect heavier investments in the 3rd quarter, which would lead to higher margins in the Q4. We continue to expect double digit growth in adjusted EPS on a constant currency basis. Our view now includes an incremental $0.03 to $0.05 versus our last outlook due to solid operating performance, lower interest expense and strong performance in our coffee joint ventures. Unfortunately, based on recent spot rates, this upside will be mostly offset by currency.
We expect currency to be a 4 point headwind to revenue growth, up from 3 points. And for adjusted EPS, we estimated an $0.08 headwind, up from 0 point 0 $5 This also includes our view of the Brexit impact on our results, which is limited to an approximate $0.02 headwind related to the currency translation impact on our UK based earnings. Our net transaction exposure is very limited as we buy a majority of our global cocoa needs in British pounds, which offsets net transaction exposure in the UK. So to summarize our EPS outlook, the upside we're seeing in EPS allows us to fully offset the negative impact of currency changes, including Brexit. Finally, we still expect free cash flow excluding items of at least $1,400,000,000 So to wrap up, we're pleased with our results in the first half.
We delivered significant margin expansion while continuing to invest behind our power brands. Our volmix performance continued to improve and we returned $1,800,000,000 to shareholders. While we remain cautious about the challenging operating environment, we're confident in our ability to deliver on our top and bottom line targets, and we remain on track to reach our adjusted OI margin target of 17% to 18% in 2018. With that, let's open it up for questions.
Your first question comes from Chris Growe of Stifel.
Hi, good morning.
Hi, Chris.
Hi. I had just two questions for you if I could to start off. And the first question I wanted to ask is just in relation to your developed versus developing market growth. This quarter seemed to show a little softer growth in developed markets. Actually, I had expected a little bit of pressure in Brazil and some of those markets and you certainly cited those.
But overall emerging market growth was about consistent with where it was in the Q1. Do you expect that to weaken a bit as we go through the second half as some of these markets are more challenged? Is it developed markets then kind of pick up a little bit in the second half of the year from where they are currently?
Actually, I think, Chris, you have to separate. So, I think your assessment about emerging markets is correct. Obviously, we're feeling like having watched what's happening, particularly in Brazil, we're seeing more softness there than we had anticipated. But I'd say in our developed markets, it's really all about North America. And Europe is actually continuing to improve sequentially.
We're seeing strong vol mix performance. We're seeing nice performance on share. And so the big change is really on our U. S. Biscuit business, where as we mentioned, we saw some very aggressive trade spending from some of our competition.
It is not helping to grow the category, but we certainly are responding. And I would tell you, even in the early couple of weeks in July, we're starting to see that business come back. So net net, we do expect our developed markets to continue to show strong performance in terms of volume mix improvement as well as share. But we are our overall forecast is continues to be somewhat muted because the aggregate category growth, which we had thought would be in the 3% to 4% range, is below the lower end of that range, and that's really what's driving our forecast.
The other thing I would add, Chris, is just emerging the growth was similar in Q1 and Q2, but the quality in terms of ball mix got better. So it's not nearly as price driven as it was in the Q1. Okay. That's helpful. Thank you
for that color. Just a quick question for you then on the guidance. Obviously, the revenue growth guidance has moderated a bit, and so is the SKU rationalization expectation or activity there. On the margin side, are you seeing a little better margin? I think we were kind of pushing more towards the low end of that range.
Is 2015 to 16 now a better range, if you will, for versus the low end for your operating margin in 2016?
Yes. I wouldn't change, Chris, the view. We feel really good about the first half. As I said, we're a bit ahead on the cost execution. Given the dynamics in the market, clearly, it's a volatile environment and we are planning to invest back and probably more than we would have expected in the first half of the year in the second half to drive some improvement in those shares and the growth.
So I think we feel good with where we are. We're not really changing the outlook on margins and being at 15% plus for the first half gives us confidence for sure, but we're going to invest. Okay.
Thanks so much for your
time. Thanks, Chris.
Your next question comes from Bryan Spillane of Bank of America.
Hey, good morning, everyone.
Hey, Bryan.
Just wanted to ask, I guess, a more broad question about capital allocation and completely understanding that you can't talk specifically about Hershey. But one question that we've fielded quite a bit over the last few weeks has been just from a broader perspective, Irene, that you're at a point now where you're considering doing a relatively good sized acquisition. Can you just talk to kind of how you get to point? Is it because the company is at a point now where you feel like you're ready to make a can take on a transaction like that? Does it make a statement about what you think maybe the medium or longer term outlook is for some of the categories given what's changed in emerging markets?
Just some context or color in terms of how you kind of got to the point where you're ready to at least contemplate potentially making a large transaction?
So Brian, our capital allocation strategy has not changed. And as I said in my remarks, I have no additional comments on the Hershey situation.
Okay. Thank you.
Thanks, Brian.
Your next question comes from Andrew Lazar of Barclays.
Good morning, everybody.
Hey, Andrew.
Two things from me. 1, the move into China with the Milka brand. I guess my question there sort of following on to Brian's really is more about timing. I guess why is now the right time for something like that? Are there capabilities now that you didn't have before that you have now?
Is it there's more clarity on productivity efforts that enable the investment at this point? I'm really trying to get a better read on the timing of this announcement because obviously the white space here in China and chocolate has been around for quite some time.
Yes. So we have been planning this for some time, as you said. And one of the most important poles in that tent is local production. And so we have a factory now up and running in Suzhou and it's ready to go. We have continued to monitor the marketplace to understand the opportunities both in terms of our portfolio as well as in our channels And obviously, e commerce is an important channel for us in China and our partnership with Alibaba is a critical piece of our launch plan.
So it was frankly just the opportunity to get all the various elements together for the launch plan. But we think it is quite representative of the growth opportunity that we see in a number of our emerging markets.
Okay. And then 2Q gross margin came in, I guess, a little below what we had been modeling. I realized there was less of a benefit from mark to market, but I think gross margin comps do get tougher in the back half. And I know this is supposed to be a very big year with respect to supply chain efforts and we're seeing some of that come through. So I guess is 2Q the way we should be thinking about gross margin expansion for the next few quarters?
Or are we likely to see the rate of year over year change for gross margin improve moving forward?
Yes. Look, I guess, Andrew, I would say, if you look at the quarter, maybe I'd start with year to date gross margins up 150 basis points ex mark to market, the quarter ex mark to market up 70. Developed markets have been very strong on gross margins. I think in the quarter, you would have seen some challenges in terms of keeping up with currency driven inflation in couple of markets. Brazil is a good example.
EMEA is a bit of a challenge in terms of volume leverage. So I would tell you, as we have said and as we shared in the conferences, this is going to be as much a primarily a gross margin driven continued margin expansion. The supply chain work that we're doing is still significant. We feel great about that. The net productivity was very strong.
And I think gross margin will continue to be a driver of the margin expansion for us.
Okay. Thank you.
Your next question comes from Matthew Granger of Morgan Stanley.
Good morning, everyone. Thanks for the questions. Brian, I guess I wanted to ask first about your revenue management efforts. My sense is that you're still in the relatively early stages of analyzing and starting to unlock some of those efficiencies. So as you talk today about the need to reinvest a bit back into trade in the U.
S. And a few other markets, should we really expect trade optimization to have a meaningful impact on price mix dynamics or margin this year? Or is it something that you're looking at over more of a multiyear timeframe?
Yes. I wouldn't really change anything from what we've said. I mean, it continues to be a large spend for us and a big opportunity. We've mobilized resources and analytically are better understanding our trade spend now on a global basis. And I would say we continue to look for opportunities to effectively more effectively manage that spend.
In some cases, it's going to allow us to reinvest those dollars in important markets where we think that's necessary to drive growth and good margins. And it is it's really for us, it's about balancing share and customer relationships and margins. And that's going to be an important part of how we manage the overall growth of the business and the margins of the business. So it's nothing's really changed in terms of what we're doing. The activity and the initiative is on track.
And I think you'll always see us selectively reinvest trade spend where we have to, where we think that's a prudent decision with good ROI.
Okay. Thanks, Brian. And just one follow-up on the organic sales trends in Eastern Europe. You mentioned some newer issues emerging in the Middle East and North Africa. Just wondering if the impact from those was amplified by the seasonal timing in the quarter or a difficult comparison?
And going forward into the second half of the year, would you expect the region broadly to return to some level of positive organic sales growth?
Yes. I would say not a lot of seasonality in that. It's more the macro dynamics in oil prices, political instability. You could go right down the list. Clearly, Saudi Arabia, Nigeria, Yemen, Syria, I mean, those are markets that are challenging.
And I would say just consumer demand was down and categories have been down. So we do see some signs of stabilization as we look through the second half of the year. And as we talked about, the other elements of that business, Eastern Europe, Russia has done very well and there are parts of Africa that have also done well. So we'll manage it. I think it's one of the reasons why you saw us took down take down the overall view on revenue for the total year is that instability and that volatility.
Yes, probably the only seasonality that does have an impact is Ramadan in the Mideast and it was a slow Ramadan season in large measure as Brian said because of the macro environment driven by low oil prices and that's volume that just doesn't come back. So but net net, our outlook for a number of the other countries is to see continued momentum.
Okay, great. Thank you both.
Thanks, Chad.
Your next question comes from Robert Moskow of Credit Suisse.
Hi, thanks for the question. I think this is the 2nd quarter in a row where you've said that you're increasing ANC support. But I'm having a little trouble understanding quantifying that and then figuring it out as a percentage of sales. Is it going up? Because and then you also said you're increasing trade promotion in certain areas.
So just maybe
I could break it out
this way. Internally, are you telling the organization that you're putting more money into marketing than you thought in the beginning of the year, like consumer marketing, and at the same time also more into trade promotion simultaneously? Thanks.
I guess, Rob, it varies a little bit by market, but I think overall, we are getting good returns on the AMC investment and that's why we continue to make those investments. Our A and C is above 9% of revenue. You will have visibility to that right now, but we continue to see A and C as a critical driver of our brand equities. And certainly as you start to see the recovery in places like the UK, Germany, India, Australia, EU biscuits, it's all reflective of the investments that we're making. And so those are the kinds of places that we will continue to make investments as well as in digital marketing.
That said, there are selected hotspots that we've talked about, particularly in markets like U. S. Biscuit and Brazil, where our price gaps are not where we want them to be. And so we are going to invest some trade back in that business, but that's not going to be without A and C support to continue to drive the longer term brand equity. So net net, we are increasing A and C in those places where we feel we're getting an adequate return and that's an important part of our algorithm going forward.
Okay. Thank you.
Thanks, Rob.
Your next question comes from David Palmer of RBC Capital Markets.
Thanks. Good morning, everybody. As a follow-up on that trade promotion question and also throwing in SKU rationalization, Can you provide any specific examples of changes that you've been making? And have your expectations around trade promotion spending changed for this year given the competitive environment you just laid out?
Well, yes, for sure, David. I mean, I think that's the reality is we are seeing a little bit different environment where not only a bit weaker in terms of category growth in some markets, but seeing how competitors play. And a couple of examples we called out in the discussion are North America and biscuits and Brazil, where we've seen more competitive aggressive competitive trade spend that's affected our shares and our growth. So that's clearly a place where we're redeploying trade spend. And I would say we're finding to your first part of your question, we are finding opportunities to free up some dollars in other trade spending we do across the business and realign it in those markets, which is going to be important given the environment that we're seeing.
Are there any specific examples that you can cite that you in terms of the bigger buckets have changed with regard to trade promo spending and SKU rationalization?
Well, I mean SKU rationalization has been ongoing, and that's a contributor as much to what we're doing on net productivity and supply chain reinvention. So without getting into specific details on where we might be cutting trade spend or specific accounts, not going to probably get into that.
Yes. Thank you.
Your next question comes from Jason English of Goldman Sachs.
Hey, good morning folks. Thank you for the question.
I wanted to circle back
to Rob Moskow's question in terms of A and C spend. Can you give us the specifics in terms of what advertising within SG and A has done year to date and what your expectation is for the full year?
Jason, we'll give you that number at the end of the year as we always do 10 ks. But again, advertising is an important component of our overall brand equities. We will continue to look to make sure that our share of voice and share of market are well aligned and I've been very clear about where the key markets are where we're making those investments, but we will continue to monitor the returns that we're getting on those investments near term as well as over the longer term.
Okay. Let me try another one then. Let's talk price real quick. I appreciate the ball mix has gotten better. Comparisons certainly are more favorable going forward.
But price is sliding a little bit. It sounds like your the trajectory on the forward is even weaker, which isn't inconsistent with what we're hearing from other companies. Is that consistent though with how you're looking at the world right now?
Look, covering cost with our pricing is critical to our algorithm, as you know. And so it is our intent to continue to price to offset higher input costs, particularly those that are common to industry. And currency, in particular, continues to be a headwind for us in most markets around the world. And so the key for us as we think about drive protecting gross margins as well as continuing to drive our ability to invest in our brands, making sure that we have adequate coverage of our cost is critically important. As the market leader, we typically are the first to increase prices.
It does often lead to some temporary dislocation and but it ultimately recovers. I talked a lot about last year, I talked a lot about our share position in chocolate in general, but particularly in markets like the UK and Germany. It took some time for the consumers to adjust to those new price points and now we're starting to see our shares recover. So there's no question there's some short term dislocation, but our ability to cover costs with our pricing is critical to our overall algorithm. 2016, as we've said to you, pricing will be less of a factor than it has been in the past years, but we still do see a couple of the emerging market economies that are going to require that we continue to price.
Your next question comes from David Driscoll of
Citi. Great. Thank you and good morning.
Hey, David.
Brian, just a minor, minor thing, apologies here. You said $0.08 on the FX impact. I think your slide actually says minus 0 point 0 $9 $9 Did you just misspeak or is it which one is it, dollars 0.08 or $0.09?
It's $0.08 And if the slide is wrong, we'll get it fixed.
No worries. It's minor. Just want to make sure I'm writing the right things here. The big picture, I just kind of like to go back to the capital allocation and just at least give it a try, see what you think of this question. But if the margin upside is as good as laid out and if there is more to come after 2018, why not just take the capital and buy back stock and execute the margin improvement program?
Wouldn't a large acquisition require the sale of equity, which is presumably under earning right now? And then I just want to say Irene that I'm really trying to make this not a Hershey question and I totally understand your sensitivity. I'm really trying to focus on the margin potential side of this and how big is that margin potential over time? And then lastly, I just note that this builds on the big margin changes that we've seen at the peers with some announcement for bigger margin expectations having just gotten rolled out. So it's incredibly topical.
Thank you.
So David, we really believe our point of difference versus other companies is our ability to grow on both the top and the bottom line. We have an advantaged set of assets both in terms of our brand portfolio, our routes to market as well as in our overall geographic footprint. And we will continue to invest in those assets to drive long term growth. In the near term and frankly over the longer term, the funding source for those investments will come from continued margin expansion. And as you rightly point out, we see opportunity as you've heard from us this morning.
We continue to see opportunities to deliver margins in the 17% to 18% range in 2018. And certainly, we will continue to see opportunities beyond that. So margin remains the source of expansion as to the bottom line as well as a source of funding for us to continue to invest in our brand franchises. Even as our global categories have slowed, snacking categories are growing at a much rate than other food and we continue to see the long term potential of investing in that growth opportunity.
Okay. I'll leave it there. Thank you.
Thanks, David.
Your next question comes from Alexia Howard of Bernstein Research.
Hi. This is Matt Ramirez standing in for Alexia. Good morning. Thanks for the question. And I was just wondering if you could give us a brief update on your China business.
You mentioned the initiative of launching Chocolate there now. Basically, it's broad sized within the APAC segment. Is its profitability broadly in line with the segment profitability we see? Just the general color in the China business would be nice. Thank you.
But China is an important market for us. We have some of the most attractive gross margins in that market of any of the emerging markets in the world. But there is no question that the economy has weakened and that's contributed to slower growth of our categories. And so we have continued to selectively invest in marketing support in our power brands and in particular in e commerce is the fastest growth in e commerce is occurring in China and we actually see close to 10% of snacks being purchased online and it's one of the drivers of the partnership that we have struck with Alibaba. So we really believe that the strong programming we have on our core franchises, biscuit and gum, together with the launch of China will help us to continue the momentum in that market.
But near term, we do remain cautious given the economy. But there's no question as we look at the long term profile, the growing middle class, the urbanization of the population and the opportunity for continued distribution gains, China will continue to be an important part of our growth story.
But any ballpark numbers for profitability that you can share?
We are not providing profitability by country.
All right. Okay. Thank you.
Your next question comes from John Baumgartner of Wells Fargo.
Good morning. Thank you.
Hey, John. You with us, John? We lost
Okay. You may have lost us connection. Okay, John, go ahead.
I'm sorry. Sorry about that. I'd like to ask about the Power Brands that the rate of growth there has really moderated from solid mid single digits the last 2 years down to 3% this quarter. Can you walk through what's behind that deceleration? And maybe specifically the extent that you've already realized some of the easier distribution gains and now it's a slower build going forward?
Or is it really just tied back to biscuits and the macro issues in general?
I would say it's the latter, John. There's no question that if you think about our overall share performance, we're only down 0.3 points of share in the U. S. Biscuit. But given the size of that market, it has a profound impact on our overall performance.
And so there's no question that getting that U. S. Biscuit business back growing again in more significantly is a critical piece of our overall performance. But our power brands will continue to be the growth drivers of our overall portfolio. Carry higher margins.
They grow at a faster rate and we expect that we are now over time continuing to put them on advantaged assets through the work we're doing in supply chain reinvention. And so the Q2 numbers were largely impacted by the U. S. Biscuit situation.
And there are big power brand exposures in some of the emerging markets that have slowed, John. So it's really the macro. But the white space opportunity is still just as strong as it's been going forward?
Absolutely. Absolutely. Thank
you.
Your next question comes from Kenneth Zaslow of BMO Capital Markets.
Hey, good morning, everyone. Hey, Ken. I have two sizing questions in terms of the new market. When you think about China in the chocolate market, you said that gum is going to about $200,000,000 business over a 4 year period. Is that the right metric to kind of think about and how big this white space opportunity is?
Is it bigger than that? Can you kind of just size the opportunity for us?
I'm not going to give you our business proposition. But again, we see it as a very attractive market. And frankly, the opportunity many of the players in that market have not performed particularly well of late and so we see it as a real opportunity for us to take some leadership and get the category growing faster.
Okay. All right. And then the second question that I have is, when you think about the online business, I think you said $1,000,000,000 in 20.20. Is that all incremental? Is that does that take away other businesses?
How much of that do we actually think of as truly new business? Is there a way to kind
of parse that out as well?
Obviously, it's early days, Ken. And so I think it's hard to tell you exactly how incremental it is. As consumers shift their behavior from more traditional channels, it's not going to be 100% incremental. But there's no question that we have the opportunity as we look at the kinds of items we're offering in those channels as well as the nature of the consumption occasions that the consumer is using those channels for, be it gifting or subscription opportunities that clearly will be incremental to our base business. And so it's one of the reasons we're so encouraged about that opportunity and have chosen to invest significantly behind it.
Okay. And I guess what I'm trying to just get at is, I understand that this year is a little bit weaker in terms of sales growth relative to your long term expectations. But are there other kind of legs to the store where you like these that you expect to see the acceleration? Is that kind
of the way to think about it?
Is that how you see white space opportunities in these growth algorithms and that's how you're going to get back to that higher level of growth? Is that the way to think about it?
Yes. I think the opportunity is both white space in terms of our category participation as well as our channel participation. As we look at markets emerging markets, for example, we still see growth in the traditional trade. And so part of our investment in route to market in areas like Brazil or India as we or even China as we think about getting outside the main cities is designed to access those consumers and those that consumption that we don't cover with our participation in the modern trade. So it's both white space with respect to brands and innovation opportunities as well as with
Your final question comes from Jonathan Feeney of Consumer Edge Research.
Good morning. Thanks for getting me in.
Just a couple of quick ones. First,
if you look at what Hershey did recently in China, essentially extend the milk chocolate Hershey brand to a lot of different places. They recently had to significantly retrench maybe their growth expectations. So looking at that and maybe how much penetration and competition there is in the chocolate business, what is it about Milka that makes you think it's a good time right now to launch China? And secondly, if I can, what is it about just this fascinating 10% or so of snacks being bought in China via e commerce. What is it that's going on in that market that makes that consumer want to buy snacks through your Alibaba partnership e commerce in general.
And can you bring that to North America, the Latin America, other markets in a way where Mondelez can well out punch the competition in that channel? Thanks very much.
So John, let me answer the second question first, which is absolutely, we see the opportunity. There's no question the model there's different models within e commerce. Alibaba is much more of a single item model versus some of the models that we see with some of our traditional retailers in the developed markets that are more of just a market basket approach to a way to buy their normal purchases. So we see every opportunity to learn from the experience we're having with Alibaba and bring some of the unique items, some of the subscription opportunities for brands like Velveeta, for example, to the online space and to drive our growth. And that is the big opportunity that we see.
We are certainly learning a lot from the various partnerships that we have around the world. With respect to chocolate in China, we have studied this for quite some time. The Chinese consumers love brands with personality. We've done a lot of testing with the consumer and our Milka Bundle is a very unique bundle. The purity of alpine milk together with some of the assets that you're familiar with the Lila Kao for example are really positive with the Chinese consumer and we have every expectation that we can actually bring growth to this back to this market with the launch of Milka.
Great. Thanks very much.
Thanks, Jonathan.
Thank you for your participation in today's conference. This does conclude today's conference call. You may now disconnect.