Anheuser-Busch InBev (NYSE:BUD) has advanced significantly during the past few years. Is it finally due for a correction? Let's see what level the stock could fall to on the basis of the low end of our fair value range.
But first, a little background. At Valuentum, we think a comprehensive analysis of a firm's discounted cash-flow valuation, relative valuation versus industry peers, as well as an assessment of technical and momentum indicators is the best way to identify the most attractive stocks at the best time to buy. This process culminates in what we call our Valuentum Buying Index, which ranks stocks on a scale from 1 to 10, with 10 being the best. Essentially, we're looking for firms that overlap investment methodologies, thereby revealing the greatest interest by investors (we like firms that fall in the center of the diagram below).
If a company is undervalued both on a DCF and on a relative valuation basis and is showing improvement in technical and momentum indicators, it scores high on our scale. Anheuser-Busch InBev posts a VBI score of 6 on our scale, reflecting our "fairly valued" DCF assessment of the firm, its unattractive relative valuation versus peers, and bullish technicals. We compare Anheuser-Busch to peers Boston Beer (NYSE:SAM), Diageo (NYSE:DEO), and Molson Coors (NYSE:TAP).
Our Report on Anheuser-Busch InBev
• Anheuser-Busch InBev's business quality (an evaluation of our ValueCreation™ and ValueRisk™ ratings) ranks among the best of the firms in our coverage universe. The firm has been generating economic value for shareholders with relatively stable operating results for the past few years, a combination we view very positively.
• AB-Inbev sells a strong portfolio of over 200 beer brands and has a global footprint with exposure to mature and emerging markets and production facilities spread across our six geographic regions. Its global brands include Beck's, Budweiser, and Stella Artois.
• Anheuser-Busch InBev's cash flow generation is robust, but its financial leverage could potentially be concerning down the road. If cash flows begin to weaken, we'd become more cautious on the firm's overall financial health.
• AB-Inbev's high end portfolio continues to deliver. During fiscal 2012, Stella volumes advanced 20%+, Shock Top jumped 60%+, Leffe increased 30%+, and Goose Island grew 35%. Renovations and innovations continue to drive expansion.
• The firm is nearing resistance levels based on its 10- week moving average. We'd pay close attention to see if it bulls back or breaks through resistance for an indication of its future price trend.
Economic Profit Analysis
The best measure of a firm's ability to create value for shareholders is expressed by comparing its return on invested capital (ROIC) with its weighted average cost of capital (WACC). The gap or difference between ROIC and WACC is called the firm's economic profit spread. Anheuser-Busch InBev's 3-year historical return on invested capital (without goodwill) is 23.9%, which is above the estimate of its cost of capital of 9.7%. As such, we assign the firm a ValueCreation™ rating of EXCELLENT. In the chart below, we show the probable path of ROIC in the years ahead based on the estimated volatility of key drivers behind the measure. The solid grey line reflects the most likely outcome, in our opinion, and represents the scenario that results in our fair value estimate.
Cash Flow Analysis
Firms that generate a free cash flow margin (free cash flow divided by total revenue) above 5% are usually considered cash cows. Anheuser-Busch InBev's free cash flow margin has averaged about 23.1% during the past 3 years. As such, we think the firm's cash flow generation is relatively STRONG. The free cash flow measure shown above is derived by taking cash flow from operations less capital expenditures and differs from enterprise free cash flow (FCFF), which we use in deriving our fair value estimate for the company. For more information on the differences between these two measures, please visit our website at Valuentum.com. At Anheuser-Busch InBev, cash flow from operations increased about 34% from levels registered two years ago, while capital expenditures expanded about 39% over the same time period.
Our discounted cash flow model indicates that Anheuser-Busch InBev's shares are worth between $74.00 - $112.00 each. The margin of safety around our fair value estimate is driven by the firm's LOW ValueRisk™ rating, which is derived from the historical volatility of key valuation drivers. Need more information on why this fair value range is so large? Click here. The estimated fair value of $93 per share represents a price-to-earnings (P/E) ratio of about 20.9 times last year's earnings and an implied EV/EBITDA multiple of about 12.3 times last year's EBITDA. Our model reflects a compound annual revenue growth rate of 10.3% during the next five years, a pace that is higher than the firm's 3-year historical compound annual growth rate of 2.6%. Our model reflects a 5-year projected average operating margin of 30.6%, which is above Anheuser-Busch InBev's trailing 3-year average. Beyond year 5, we assume free cash flow will grow at an annual rate of 2.8% for the next 15 years and 3% in perpetuity. For Anheuser-Busch InBev, we use a 9.7% weighted average cost of capital to discount future free cash flows.
Margin of Safety Analysis
Our discounted cash flow process values each firm on the basis of the present value of all future free cash flows. Although we estimate the firm's fair value at about $93 per share, every company has a range of probable fair values that's created by the uncertainty of key valuation drivers (like future revenue or earnings, for example). After all, if the future was known with certainty, we wouldn't see much volatility in the markets as stocks would trade precisely at their known fair values. Our ValueRisk™ rating sets the margin of safety or the fair value range we assign to each stock. In the graph below, we show this probable range of fair values for Anheuser-Busch InBev. We think the firm is attractive below $74 per share (the green line), but quite expensive above $112 per share (the red line). The prices that fall along the yellow line, which includes our fair value estimate, represent a reasonable valuation for the firm, in our opinion.
Future Path of Fair Value
We estimate Anheuser-Busch InBev's fair value at this point in time to be about $93 per share. As time passes, however, companies generate cash flow and pay out cash to shareholders in the form of dividends. The chart below compares the firm's current share price with the path of Anheuser-Busch InBev's expected equity value per share over the next three years, assuming our long-term projections prove accurate. The range between the resulting downside fair value and upside fair value in Year 3 represents our best estimate of the value of the firm's shares three years hence. This range of potential outcomes is also subject to change over time, should our views on the firm's future cash flow potential change. The expected fair value of $120 per share in Year 3 represents our existing fair value per share of $93 increased at an annual rate of the firm's cost of equity less its dividend yield. The upside and downside ranges are derived in the same way, but from the upper and lower bounds of our fair value estimate range.