Boston Beer (SAM 0.77%) is shipping a lot more alcohol these days compared to last year, and that's showing up in the top and bottom lines. And while the company's flagship Samuel Adams beer brand continues to fall, it's more than making up for it with sales of hard cider, tea, and seltzer.
Yet the growth of these different lines is increasing expenses in marketing, packaging, transportation, and elsewhere that success in cost-saving initiatives can't overcome. That's taking a toll on Boston Beer's gross margins, and the organization now says it won't be able to regain them for several years.
Hard seltzer has been a surprisingly strong performer for Boston Beer. Image source: Boston Beer.
Frothy gains on new product introductions
In the company's third quarter, depletions, or sales to distributors and retailers, soared 18% from the year-ago period while shipments were 23.5% higher, both marking their best performance in four years. If only the brewer's name weren't Boston Beer, the quarterly results would be a great success all around.
Data source: Boston Beer quarterly SEC filings.
As it is, the quality of the beer portfolio continues to degrade. Analysts see Samuel Adams sales continuing to fall by double-digit rates, far outpacing the gains it might be making with new product introductions like Sam '76, a lager-ale blend; Samuel Adams New England IPA, a trendy beer that eschews clarity for a cloudier look; and Angry Orchard Rose, a rose cider. Boston Beer admits the success of its 2018 product introductions is not something easily repeatable, as President and CEO Dave Burwick noted when he said, "I think we beat the odds significantly this year from an innovation perspective." Boston Beer does have new products in the works for 2019 that revolve around the trend of "health and wellness." Still, it's not counting on catching lightning in a bottle two years in a row.
The cost of winning
To compensate, Boston Beer is going to support its existing innovation portfolio going into the second year -- what it calls its sophomore innovation -- to get as much growth and distribution out of new offerings as possible.
The problem is, it's costing the brewer a lot of money to do so. For example, the Truly brand of seltzer introduced a berry-flavored variety pack, and while exceptionally popular, it's been driving significant sales toward cans, especially slim cans. The brewer also pointed to incremental costs it will face related to increasing production volumes at contract breweries as well as higher labor costs at its own breweries.
Because Boston Beer will be increasing how much it spends on advertising, promotional, and selling expenses to somewhere between $15 million and $25 million for all of 2018, while also increasing its general and administrative expenses by $10 million to $20 million for the full year, the brewer has reduced expectations for gross margins this year to be between 50% and 52%, down from its prior guidance of 51% to 53%. Next year, it anticipates margins reaching as much as 53% as its cost-saving plans are realized, but it won't see the full benefit of its target of 1% annual margin growth for a few years.
Tough road ahead
That makes Boston Beer an expensive stock at these levels. It's trading at 45 times trailing earnings and 34 times this year's estimates. While the company needs to spend more to support its products and invest in new innovations, these tactics come at a price. Boston Beer is also going to be facing some tough depletion comparables in the quarters ahead: Just as 2018 was marked by stepping over very low hurdles, 2019 will see the bars set much higher.
The organization still needs to figure out how to reverse the decline of the Samuel Adams brand. It has a new ad campaign to highlight the beverage featuring founder and chairman Jim Koch -- always an effective advocate for the authenticity of the beer -- but Boston Beer will be positioning the product more as an alternative to mass-brewed lagers rather than as a craft beer specialty, which is a new tack that may not pay off.
Boston Beer has had a remarkable run this year, with shares 52% higher than where they started, but its wide-ranging innovation isn't cheap, and the high cost of investing in new products may mean the brewer will run flat for a while.
