The second quarter of Constellation Brands' (STZ 0.06%) fiscal 2014 marked the first quarter the company reported consolidated results for Crown Imports and its Mexican brewery. According to CEO Robert Sands, "the transition of our new beer business has been successful and seamless."
Shiny new brands
In June, Constellation acquired Grupo Modelo's U.S. beer business from Anheuser-Busch (BUD -0.53%) for $4.75 billion. The agreement gave the company complete control of Crown Imports. The acquisition included a license to import and sell Corona and Modelo brands, the freedom to create additions to these brands, and ownership of the Nava brewery in Mexico.
During the last quarter, overall Crown sales and depletion growth were 3% and 7%, respectively, led by Modelo Especial's 17% depletion growth. Corona had a successful summer with depletion for Corona Extra and Corona Light increasing 4% and 5%, respectively. Consolidation of the Crown beer branch resulted in an incremental gross profit increase of $311 million.
The success of the newly-acquired beer segment can be partially attributed to an increase in advertising. Corona Extra added rising boxing stars to its packaging, and it has a new TV campaign called "Live it, Share it, Win it," which has resulted in increased displays in retail. Modelo Especial has partnered with Fox Soccer to create a sweepstakes where the winner will receive a trip to Brazil for the 2014 World Cup. There will be codes in Modelo Especial packages that customers can plug in online for a chance to win airfare, hotel accommodations, and game tickets for the cup. Negro Modelo and Pacifico have also increased television and digital media promotion to promote organic growth within the brands.
While the increase of advertising has helped sales and depletion, it has hurt overall gross margin. Consolidated gross margin for the most recent quarter was 40.37%, versus 41% the previous year.
STZ Gross Profit Margin Quarterly data by YCharts
The chart shows lower yearly gross margin, but it is following the same trend as it did in 2011 and 2012. Gross margin has been lower in the early months of the year and then increased afterward. Constellation Brands has attributed the slight decrease to the increase in promotional expenses and grape costs for wine production. The promotional expense was necessary for the new beer brands and it resulted in a 3% increase in net beer sales to $815 million.
Competition
Constellation's closest competitor is Diageo (DEO -1.48%), which has a similar mix of wine, beer, and spirit products. Diageo has extremely strong spirit brands like Captain Morgan and Smirnoff, which have offset the company's weaker beer division. CEO Ivan Menezes recently stated "Innovation in beer in the last 12 months has not been as successful as we'd like."
Innovation is crucial for a profitable beer manufacturer. New or seasonal beers can help drive sales and justify higher prices for temporary brews, which in turn helps overall margins. Constellation has a new beer, Modelo Especial Chelada, which is a traditional Mexican drink made with beer, lime juice, and assorted sauces, spices, and peppers. The pre-made drink is one of the company's first beer innovations and shows good use of its newly acquired Crown brands.
If Constellation can continue its successful growth and innovation, beer could be its advantage over Diageo.
Final Foolish thoughts
With its numerous new brands, Constellation Brands has unique beers that sell particularly well during the summer. While it has had success with its recently-acquired beers, the true test will be in the coming fall and winter months when beer consumption is lower. If its beer sales do grow, this will result from more aggressive marketing and beer innovation.
