Investors are expecting good news from Constellation Brands (NYSE:STZ) when it posts fiscal third-quarter results on Thursday, Jan. 5. The overall beer and wine market may be sluggish, after all, but Constellation's portfolio dominates the premium niches that are expanding at a healthy pace right now.

Three months ago, Constellation raised its profit outlook following surprisingly strong earnings results. Let's look at the key trends that will determine whether the alcoholic beverage giant has another upgrade in store for investors this week.

Buy me a beer

Constellation has been soaking up beer market share as consumers increasingly opt for premium imported brands over value options. Budweiser owner Anheuser-Busch InBev (NYSE:BUD), for example, last posted a 1.5% drop in global beer sales volumes, while Constellation Brands' shipments spiked 12%.

Four young adults drinking beer at a bar.

Image source: Getty Images.

Look for that performance gap to continue as its beer sales increase at a double-digit pace this quarter. Management will likely credit strong demand for the Corona and Modelo franchises, which together make the company the top high-end beer seller in the United States.

Constellation should also post improved profitability in the beer segment as it capitalizes on new distribution opportunities, increased prices, and innovative product launches. The gross margin expansion likely won't be as dramatic as last quarter's 4.2% surge that brought beer profitability to 41% of sales. That result benefited from peak summer production volume, after all. Still, Constellation should see more profitable beer sales that contribute to an overall increase in margins.

STZ Operating Margin (TTM) Chart

STZ operating margin (TTM) data by YCharts.

Peak wine season

The wine and spirits business hasn't been nearly as successful in fiscal 2018. But its 5% volume growth last quarter -- and a slight uptick in profitability to 26% of sales -- outpaced most industry rivals.

Red wine pouring into a glass.

Image source: Getty Images.

In the quarter that just closed, newly acquired wine brands like Charles Smith ideally will help protect that expansion. Meanwhile, Constellation recently launched an aggressive advertising program aimed at boosting sales during the peak wine selling season, and so investors should learn on Thursday whether that marketing strategy is working.

CEO Rob Sands and his executive team are calling for the wine and spirits segment to increase sales by 5% for the full year while the beer division expands at roughly double that pace. That prediction has held steady over the past two quarters, but it's still possible that the company will move it higher, or lower, depending on the latest operating trends. Overall profitability is projected to continue marching above 30% of sales thanks to a 7% increase in operating income.

Follow the cash

Constellation Brands will spend over $1 billion on upgrading its Mexico-based beer operations this year as part of a $4.5 billion project aimed at increasing production capacity and raising efficiency at its glass plant. The bad news is those capital expenditures will keep a lid on free cash flow, which is expected to range between $725 million and $825 million in fiscal 2018.

However, capital spending should start moderating in the upcoming fiscal year when executives plan to produce a record $1 billion in free cash flow. And if the business keeps posting healthy sales and profitability gains, investors should be in for rising cash returns.

Spiking free cash flow should be enough to fund solid increases in the dividend, which currently takes up less than 30% of earnings. At the same time, Constellation will have plenty of resources it can direct toward additional acquisitions in 2018 that bolster its position on the premium end of the beer, wine, and spirits niches.


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