Molson Coors: Revitalization Strategy Will Continue To Support Growth

Summary

• Molson Coors continues to grow its top line with portfolio premiumization and re-emphasis on core brands under the Revitalization strategy.
• The company's financial position continues to strengthen with reduced leverage that supports dividend increases and higher free cash flow.
• Declining margins still pose the main risk for Molson Coors's growth; however, reduced input and transportation costs coupled with revenue growth should support margin expansion.

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Following a strong fourth quarter despite macroeconomic challenges, Molson Coors (NYSE:TAP) ("Molson") is positioned to outperform as the company's internal Revitalization strategy continues to support revenue growth. In addition, a cleaner balance sheet and sustained cash generation will support shareholder givebacks in the future.

Molson reported Q4 and FY 2022 earnings on Feb 21, and results for both the quarter and full year demonstrate the positive effects of the company's revitalization strategy. Despite slightly lower volumes for FY 2022, the company posted net sales growth of 4.1% compared to 2021, taking advantage of a strong sales mix resulting from the refocusing on the core brand portfolio and premium brands. In addition, while financial volumes fell on a Y/Y basis, the decline was in-line with a broader pullback in the beer market in 2022, suggesting the occurrence was not directly correlated to Molson's operations.

Molson continued to face macroeconomic headwinds along with declining margins which have yet to rebound since the $12 billion acquisition of Miller Brewing Company in late 2016; however, the 2019 Revitalization Strategy has continued to strengthen Molson's core and premium brands while prudent management has supported the company's financial health. Molson will continue to leverage its strong brand portfolio and strengthen its financial position, allowing the company to realize growth on the top and bottom lines even through challenging macroeconomic environments.

Portfolio Optimization Will Continue to Drive Sales Growth

In 2019, Molson management announced the Revitalization Strategy to refocus resources toward the core portfolio brands like Miller Lite and Coors Light, increase the portfolio weight of premium brands like Blue Moon, and optimize costs by discontinuing low margins SKUs. This strategy has proven increasingly successful, with Q4 and FY 2022 earnings exemplifying positive top-line growth. One of the most promising metrics Molson continues to expand is net revenue per hectoliter, reaching $135.29 per hectoliter in FY 2022 (+6.2% Y/Y). This figure compares to $97.10 per hectoliter by Anheuser-Busch InBev (BUD). Although Statista predicts total US beer market revenue to grow at 4.7% CAGR through 2027, volumes will continue to lag over the coming years, as stated by Molson Coors's CEO Gavin Hattersley during the Q4/FY22 earnings call. As volumes remain a headwind over the coming year, Molson's more robust revenue per hectoliter will serve as a competitive advantage during 2023, allowing the company to gain market share on a sales basis.

Molson Coors & Anheuser-Busch Quarterly Reports

Furthermore, the premiumization efforts under the Revitalization plan will lead to a stronger sales mix skewed towards premium brands in the Molson portfolio. The discontinuation of lower-margin SKUs will free up cash that can go towards marketing for high-margin, core brands with greater ROI given their superior pricing. And while COGS per hectoliter has increased Y/Y due to the emphasis on premium brands, Molson's $661MM investment into modernizing breweries in the US and Canada will help optimize costs for future quarters and support healthier margins. This move by management exemplifies the productive expenditures the company has made since the announcement of Revitalization that will finally allow for increased profitability.

Marketing Focus on Core and Premium Brands Will Fuel Growth

Beyond investments in the firm's physical capital, Molson also has ramped up marketing and advertising for the core portfolio of Miller Lite and Coors Light. The company has reemphasized Miller Lite's premium light beer position by running ads directly juxtaposing the product as superior to Michelob Ultra, Anheuser-Busch's premium light beer. This more aggressive marketing strategy for Miller Lite illustrates the brand as a premium light beer in direct competition with Anheuser's Michelob Ultra will allow Miller to better target premium beer consumers.

Molson also successfully leveraged the end of Anheuser's monopoly over Super Bowl advertising for alcoholic beverage firms by partnering with DraftKings to create an interactive ad that promoted Miller Lite, Coors Light, and Blue Moon. Further successful advertising bodes well for continued gains in the U.S. beer market, especially if Molson leverages popular culture, like sports betting and social media trends, in their marketing strategy to appeal to a broader audience. And even before the Super Bowl ad, Molson has revealed they can translate smarter marketing into growth which management acknowledged in the most recent earnings release: "Coors Light and Miller Lite in the U.S. [posted] their strongest combined full-year dollar share performance in a decade."

Molson's increasing geographic and product diversity beyond US beer also mitigates the risk associated with the domestic beer industry. The international brands continue to make gains abroad, with Carling maintaining its position as the highest-selling lager in the United Kingdom and Molson Canadian growing its market share in Canada. And in the non-beer market, Simply Spiked Lemonade and Topo Chico Hard Seltzer continue to grow their market shares, adding additional diversity to the US beer portfolio.

Reduced Inflationary Pressure Will Widen Margins

Even with top-line performance continuing to improve, Molson must resurrect their margins to realize the gains on the top line. For FY 2022, the company reported an adj. EBIT margin (excluding goodwill impairment) of 9.4% compared to 14.1% in 2021. However, for Q4 alone, Molson reported an adj. EBIT margin (excluding goodwill impairment) of 12.6% compared to 6.3% a year prior.

Most of the margin pressure has come from high transportation, energy, and container costs, suggesting these headwinds will subside as supply chains ease and inflation continues to decline in the United States. A further potential tailwind for Molson would be the conclusion of the War in Ukraine. With Russia's absence from Western oil markets, the price of diesel fuel, needed to transport the grains necessary for beer, has increased significantly. An end to the war and Russia's reintroduction to the Western oil market would drive down the cost of transportation of raw inputs and finished goods to their destination. Having no control over the situation in Russia, Molson still stands to gain from the war's conclusion given their intensiveness of transporting physical products.

In addition, the modernization of breweries in Colorado and Canada will help correct for the recent increases in COGS per hectoliter resulting from premiumization. With the Revitalization initiative being introduced in 2019, Molson has only effectively had one year of "normal" conditions to build on this strategy and optimize their cost structure. With an ongoing tight labor market with near decades low unemployment, the ability to optimize operations is more crucial than ever for the firm. COVID-19, supply chain bottlenecks, and high inflation posed abnormal obstacles for the past three years, and Molson's ability to build on the success of top-line growth with internal optimization will prove key for the company's ability to widen their margins for quarters and years to come.

Reduced Leverage has Strengthened Financial Position for Shareholder Givebacks

Underlying the revenue rebound over the past few years has been a coinciding strengthening of the balance sheet and continued free cash flow generation to support shareholder-friendly activities. Molson generated $852.9 million in free cash flow for FY 2022. Management forecasts free cash flow near $1 billion for FY 2023 despite the macroeconomic headwinds, low volume growth predictions, and rising interest rates. These optimistic projections in spite of macroeconomic conditions are facilitated by a successful deleveraging strategy since the Miller acquisition and a strengthening of the overall balance sheet.

With the company announcing a $0.41 dividend per share and proceeding with its $200 million share repurchase program through 2026, investors should remain confident in Molson's ability to fund such activities and maintain or increase the current quarterly dividend amount. At the start of the pandemic, Molson suspended its dividend through 2021 as a precaution given the rapid rise in uncertainty. Some viewed this move as overly-cautious and casted doubt on the company's resilience through the pandemic; however, the company's decision to suspend the dividend and preserve capital exemplifies prudent management to ensure the company can proceed with its deleveraging and Revitalization plan. Since then, the dividend has returned to its pre-pandemic level and should instill confidence regarding management's outlook for the company's financial positioning.

Additionally, Molson has continued to decrease its leverage in line with their goals to maintain investment grade status. The company met its goal of reducing net leverage to under 3x on an adj. EBITDA basis (excluding non-cash and non-recurring expenses/income) by 2022, reduced from near 5x post-Miller acquisition in 2017. The company's goal to maintain an IG rating and management's target of 2.5x net leverage supports Molson's financial strength and allows the company to explore increased shareholder-friendly activities. Furthermore, the company's reduction in total debt by half a billion dollars will help offset higher interest payments when Molson refinances its $853 million issues due in 2024 and $2 billion in debt due in 2026. Even if the Fed begins to cut rates by the end of 2023, the days of near-zero interest rates are over; so, any reduction in debt before needing to refinance bodes well for profitability and cash preservation. With higher borrowing rates, Molson can offset higher interest expenses by reducing the nominal quantity of debt on its balance sheet.

Plenty of Macroeconomic and Firm-Specific Risk

Despite the positive comeback story that Molson continues to develop, many macroeconomic and business-specific headwinds still pose a risk to the company's growth prospects. For one, the US beer industry in 2022 saw a decline in alcoholic beverages market share to 41.9%, losing the top spot to spirits which captured 42.1% of the total market. Important to note, however, is beer sales increased in 2022 despite the shrinking market share. Thus, while the beer industry will likely not experience significant market shrinkage over the coming years, stagnant volumes due to consumers switching to spirits and wine over beer pose a growth headwind for all firms in the beer industry.

Molson also faces substantial risk regarding whether it can resurrect its weakening margins, especially in the context of rising interest rates, ongoing supply chain problems in the beer industry, higher transportation and raw materials costs, and a possible pullback by the consumer. One can definitely frame Molson's return to the forefront of the beer industry as a comeback story, and, as such, the company runs the risk of falling short of the mark. Since Molson's SG&A/Revenue has decreased Y/Y, most of the margin shrinkage has come from direct production costs. The company has incorporated hedging strategies for certain material costs, but transportation costs of raw materials to breweries and for distribution to consumers cannot be adequately hedged; the continuation of the War in Ukraine will likely sustain these high transportation costs.

Finally, the inability to sustain brand growth due to consumer preferences or weakening price inelasticity on key brands will hinder top-line growth. While Molson's marketing efforts represent a step in the right direction for one of the largest beer companies in the world, growing sentiment in popular culture about beer being high calorie and unhealthy compared to spirits could stall attempts to expand market share. Additionally, with specific cost pressures expected to persist in 2023, weakening price inelasticity among beer consumers as prices continue to rise will damage the growth outlook for Molson and the beer industry at large.

Conclusion

Investors should view Molson with cautious optimism. Molson Coors's earnings for FY 2022 and Q4 presented some contradictory evidence that could support both bullish and bearish theses on the name. However, the positives outweigh the negatives, and the business's strengths and opportunities will ameliorate present obstacles. The top line has demonstrated resilience during economic cooling as consumers absorbed price increases, and premiumization led to a favorable sales mix. With Molson bringing Miller Lite, Coors Light, and premium beers back to the forefront of their operations, these revenue trends should continue into the future and allow the firm to maintain a competitive advantage. While Molson has many macroeconomic, industry, and firm barriers to overcome in the coming quarters and years, Molson's financials remain strong and the company produces meaningful free cash flow to support givebacks to shareholders.

Speculation about the future of the beer market remains ambiguous. However, beer is not going anywhere anytime soon, and Molson Coors continues to position itself to grow its market presence and demonstrate its best days are still ahead.

Analyst’s Disclosure: I/we have a beneficial long position in the shares of TAP either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.