It's not everyday that a company gives up an important piece of its business after it has led the market for nearly a decade. But in this segment from Industry Focus: Consumer Goods, Motley Fool analysts Vincent Shen and Asit Sharma explain why alcoholic beverage company Constellation Brands (NYSE:STZ) is doing exactly that as management prepares to spin off its Canadian wine portfolio in an IPO on the Toronto Stock Exchange. Also, they take a look at a few reasons why the segment saw declining sales last year that may have accelerated the decision-making process.
A transcript follows the video.
This podcast was recorded on Jun. 14, 2016.
Vincent Shen: You mentioned the growth rates -- do you feel like that is potentially one of the reasons why the company is really thinking about spinning off what they have in Canada, which is one of the leading wine producers? I think one of the top premium wine names worldwide, actually. Could you just walk us through maybe a little bit what management is thinking with this spin-off, if this really makes sense?
Asit Sharma: Sure. In the company's most-recent conference call, management said, "Hey, Canadian wine business isn't getting the visibility we think it deserves." These conference calls are great. You have to almost have a Google Translate for management speak. I want to translate that for you. What that really means is, "Hey, we don't think this Canadian wine business is returning as much to our bottom line as it should, because obviously if this was making good money out in the Canadian market, then there would be no need to spin it off." If you look at this business, it was acquired several years ago, and has never really been a huge part of the business. Maybe it was destined to grow at a good clip, but that growth never really materialized.
Last year, the Canadian wine business booked about less than $600 million in sales; that's in U.S. dollars. The previous year, it booked just under $700 million in sales. You actually see a little bit of decline in that business. Now, we have to look at the reason for this. Number one is that the U.S. dollar has really ramped up against world currencies. Anyone who invests in consumer goods knows this because you've seen the reports come back, and the companies you hold, and they always cite dollar strength and foreign-currency translation. Those are sort of buzz words; our earnings aren't as great as we expected that they would be. But over the border, the Loonie, the Canadian dollar, has really depreciated versus the green buck. It's trading just under $0.80 to one U.S. dollar. What that means is, when Constellation Brands translates its earning back into dollars, it takes a big slice off the top.
The other thing which we've seen -- this goes back to, Vince, your comment about acquisitions -- Constellation Brands' management has taken on quite a lot of debt to finance acquisitions, and also to build up capacity. The debt keeps growing, but so do the earnings, because these are typically smart acquisitions. When you start doing this cyclically, like almost every year, you start to look at the other parts of your business, and those that aren't growing as quickly don't look as great to you because they have a limited capacity to pay that debt down.
What management really wanted to do here is to trade one thing for another. They'd like to give wings to the Canadian wine business, let it fly on its own; take those proceeds, pay down some debt. Once that debt is paid down, they're going to re-up, they're going to borrow more money, and maybe buy some more of these craft-beer companies that we've talked about.