Back in January, I wrote that Constellation Brands (NYSE:STZ) was about to fall flat. I didn't expect it to crash, mind you. But given its dependence on the flat U.S. market for its Corona and Modelo brands and the relative overpricing of the entire brewing industry, I didn't expect STZ stock to do much.
Swing and miss. Immediately after I wrote the January article, STZ jumped 15% on a better-than-expected earnings report. And STZ has continued its run with another better-than-expected earnings report this morning, along with improved guidance for the rest of the year.
STZ's net income rose to $206.7 million, or $1.03 per share, in the first quarter. The consensus estimate was 93 cents per share. But the news that sent STZ stock soaring was management's EPS forecast of $4.10 - $4.25 for the year, up from its previous estimate of $3.95-$4.15.
Let's dig into the numbers. Following the Modelo merger last year, which brought the Corona and Modelo brands into the fold, beer continues to be a bigger and bigger piece of Constellation's business. Constellation gets about 57% of its revenues from beer and the remaining 43% of its sales from wine and spirits (almost entirely wine; STZ has only a handful of small liquor brands).
Significantly, beer accounts for literally all of STZ's growth. Its traditional wine business actually declined year over year by about 2%. STZ expects beer sales to finish the fiscal year with sales growth of about 10%.
STZ made a critical strategic move by diversifying out of wine. As I wrote back in 2012 (see Whiskey and Beer Better Long-Term Bets than Wine),
Outside of, say, Coca-Cola, beer and spirits are probably the most recognizable and valuable brand names in existence. Not surprisingly, premium beer and spirits businesses tend to enjoy high margins and high returns on equity… Wine is a different story. The attractiveness of a given vineyard varies from year to year, and few have national or international brand awareness. Wine connoisseurs know their favorite vintages, but there is little brand loyalty at the mass-market level.
What has repeatedly surprised me over the past year is how much mileage Constellation has managed to get out of the Corona and Modelo brands. Imports and microbrews have been gaining in popularity over mass-market domestic brands (think Bud Light) for the better part of two decades now. Corona and Modelo are "old" import names, and the only place I see them anymore is at Tex-Mex restaurants. (A cold Corona really does go down smoothly on a hot summer day in Dallas.)
Perhaps I spend too much time in snobby bars, or perhaps my view is biased by the abundance of "it beer" microbrews and imports that seem to spring up every week. But I would expect Corona's sales growth to slow to the flattish "big beer" growth rates seen by the major domestic brands within the next couple of years.
Where does this leave STZ stock?
At the current price around $90, STZ trades for about 21 times earnings. That's expensive but not ridiculously so based on the broader market's frothy valuations these days. It's also more or less in line with its Big Beer competitors: Anheuser-Busch InBev (NYSE:BUD), Heineken (OTCQX:HEINY) and SABMiller (OTCPK:SBMRY) trade for 19 times, 18 times and 22 times forward earnings, respectively.
After trading sideways for most of 2013 and early 2014, Big Beer has been showing signs of life since February. BUD and HEINY are up about 20% since February, and SABMiller is up a little over 30%.
If you're looking for a short-term trade, STZ might be your best bet for the remainder of this year. But as long-term holdings, I would suggest accumulating shares of HEINY and SMBRY on any pullbacks. Unlike STZ, which depends on the mature American market, HEINY and SBMRY have excellent exposure to the fastest-growing beer market in the world: Africa. I should also reiterate that none of the Big Beer competitors have STZ's wine business bogging them down.
I'm not wildly enthusiastic about any of the above at current prices. But I do consider HEINY and SMBRY to be suitable "buy and forget" investments for the next 5-10 years.
Disclaimer: This site is for informational purposes only and should not be considered specific investment advice or as a solicitation to buy or sell any securities. Sizemore Capital personnel and clients will often have an interest in the securities mentioned. There is risk in any investment in traded securities, and all Sizemore Capital investment strategies have the possibility of loss. Past performance is no guarantee of future results.