Molson Coors: Better Days May Be on TAP

| About: Molson Coors (TAP)

It is far from a startup. The Molson Brewing Company (NYSE:TAP) can be traced to a year prior to the ratification of the United States Constitution, and Adolph Coors rolled out its first kegs in 1873. The entities came together a half dozen years ago, and a 42% stake in Miller Brewing was acquired in 2008. Today the combined entity generates estimated full year 2011 Revenue of $3.4 billion, excluding Miller's results, which are consolidated into the Operating Income line of the Income Statement. Its recent close of 45.12 a share leaves it squarely in the middle --- about 12% under its 52 week best and 13% over the same period low. Over the last two years the stock has materially underperformed all of the S&P 500 (NYSEARCA:SPY), the Consumer Non-Durable SPDR and its principal U.S. competitor, the always formidable Im-Bev Annheuser Busch (NYSE:BUD). Its dividend yield scrapes 2.50% which, when combined with a sub-12 P/E on consensus 2011 estimates, seems to merit a closer look and maybe a sip or two.

TAP's challenges, and what may unhinge an aggressive investment in the Company, result from:

  • Consumption trends: while less pronounced in Canada, running 2-3 year beer drinking volumes have contracted 1-2% annually in the U.S., and by an even more eye catching 3-4% in Great Britain, where Molson holds around 20% of its Assets but derives less than 10% of its Pre-Tax Income. Longer term --- 20-25 year --- numbers are more promising with annual increases in the 1% area, but even at that the fact is plain that this is not a major growth story. To its credit Molson-Coors has retained its North American market shares: 30% U.S. (most of the rest handled by BUD); 42% Canada where it lines up against an equally formidable competitor in Labatt's;
  • Pricing: any hope of meeting or materially exceeding Revenue and Earning estimates relies upon the Company's ability to initiate and maintain 1-2% price increases this and coming years. TAP's customer base demographic centers on males aged 20-35, and unless that group's employment and household earnings prospects enjoy something of a rocket launch it is unlikely that the desired combination of volume resumption and pricing can be implemented. Beyond that hopes get pinned on Cost and Expense control. This year's planned $50 million Capital Outlay aimed at improving efficiencies at one of its Canadian breweries is aimed directly at that outcome.

Bullish holders of the stock and optimistic new entrants should note that the upper end of 2011 consensus EPS calls is a few pennies below $4.00. A model that I have assembled drives the number closer to $4.20. My belief is that the Street is at present underestimating Miller's throw weight. It put $456 million onto Operating Income (EBIT) in 2010, and it seems by no means a stretch to look for a 7% increase in that line item this year. If so Net Free Cash of $440-450 million should flow through Molson's veins, enough to induce an always shareholder friendly combination of management initiatives: in this case a 12-13% lift in the dividend and the initiation of a share repurchase undertaking.

Finally --- and triggered almost exclusively since Berkshire Hathaway has muscled its way back to the top of news headlines with its recent scoop of Lubrizol (LZ) --- questions surface about a takeover. TAP's $8 billion market cap certainly does not remove it from contention as a target, especially when combined with Cash Flow numbers cited above. Regulators would presumably impose a wary eye over BUD casting its net, but other consumer products giants seeking an entry into this --- admittedly slow growth --- field cannot and should not explicitly be ruled out. Nothing in today's market calls for swift or immediate take down, but existing holders are advised to stay with TAP, and those looking for entry may keep the buy tickets within easy reach when and if the share price retreats to $40-42 zone.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

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