In the first of two articles on beer, wine, and spirits purveyor Constellation Brands' (STZ +0.07%) current and future prospects, we discussed the company's product innovation bent, which requires stepped-up marketing investment, as well as its huge outlay to amplify beer production capacity. Marketing spends and depreciation expense will both weigh on Constellation's income statement going forward, yet on balance, each should foster revenue and profit expansion over a longer time horizon.
However, shares appear to have at least a temporary cloud hanging over them: Constellation stock has lost roughly 7% since it revealed fiscal first-quarter 2019 earnings on June 29.
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A reason to be wary?
Investors are likely worried about encroaching competition, as global beer giants eye Constellation Brands' runaway Mexican beer success. Last year, Molson Coors (TAP +2.66%) signed a 10-year agreement with Heineken, N.V. (HEINY 0.20%) for the right to import, market, and distribute Heineken's 118-year-old Mexican beer brand, Sol. This complements the positioning of Heineken's respected, if not dominant, Mexican imports of Dos Equis and Tecate. And this year, Anheuser-Busch InBev (BUD +0.75%) is relaunching its own 108-year-old Mexican beer brand, Estrella Jalisco, in the U.S.
Anheuser-Busch in particular has come full circle. When the beer conglomerate acquired Mexican beer maker Grupo Modelo in 2013, it was forced by U.S. antitrust regulators to give up the U.S. marketing and distribution rights to Grupo Modelo's primary beers, including labels Corona, Pacifico Claro, Modelo Especial, and Victoria. Consequently, it sold these rights to then joint-venture partner Constellation Brands. The only way at present for AB InBev to compete with Constellation in the U.S. in the imported Mexican beer market is to create new brands, or promote labels like Estrella Jalisco, which weren't part of the original portfolio transfer.
Both AB InBev and Molson Coors have wide distribution capabilities at their disposal, and each poses a credible threat in that Sol and Estrella Jalisco both hold attributes that have made Constellation's own beers successful. These include pre-existing familiarity and popularity within Hispanic populations, light, crisp flavor profiles, and engaging backstories and history that new, often non-Hispanic customers appreciate for their authenticity.
Yet even as AB InBev and Molson Coors dial up their competitive postures, market share gains are likely to be incremental in the near term. That's because Constellation Brands has convinced distributors and retailers that its Mexican beer portfolio provides superior takeaway on shelves.
As the company observed in its June 29 earnings conference call, Constellation's beers remain the No. 1 growth contributor to the U.S. beer category. Corona Extra, one of the top five selling beers in the U.S., continues to achieve record case volumes. The Modelo Especial line-up is currently experiencing phenomenal growth and stepping out of Corona's shadows. In fiscal 2018, the company reported that Modelo Especial grew depletions (the rate at which a distributor's inventory is depleted after taking delivery of product from a beer manufacturer) by 17% -- an extremely fast rate in this industry.
Constellation is also heavily promoting Pacifico Claro, a brand it believes is under-represented in the U.S. The company launched a 12-can pack in the first quarter, supported by nationwide T.V. advertising. This follows the steady market penetration of Pacifico's colorful 24 oz. can, first introduced in 2016. The organization's brands have richly rewarded beer end-sellers, and even its larger competitors won't be able to wrench shelf space away overnight.
Constellation's growth story is still intact
These nuances aside, a hint of slower growth, which we discussed in the previous article, and the competition concerns above may be causing some investors to take profits off the table. Constellation Brands has been one of the best-performing consumer sector stocks in the S&P 500 for a long string of quarters -- STZ shares have advanced 325% over the last five years. Yet, the stock sports a forward price-to-earnings (P/E) ratio of just 22.6. Given the company's tremendous previous growth and future potential, I believe this is a relatively small premium over the S&P 500 index's consumer staples sector, which currently trades at an average forward P/E ratio of 17.1.
In sum, higher growth-related expenses in the near term should be expected as management invests for the next round of growth. Investors should also monitor the competition, though it's not a significant factor in slowing Constellation's juggernaut Mexican offering at the moment. Constellation still enjoys prized positions in the beer market and high-end wine and spirits categories, and it's poised to maintain its advantages, despite present pressures.
