After five years of an upward-trending market, it is no surprise that a few stock valuations are getting out of hand. Valuations in the beverage industry are especially interesting, with the market placing premiums on growth stocks like Boston Beer (NYSE:SAM) and a resurgent Constellation Brands (NYSE:STZ) that are bucking the industry's trends. Both of these stocks are richly valued, but one suits some investors better than the other. Find out which alcoholic beverage stock you should have in your portfolio.
Beer acquisition boosts sales
Investors need only look at Constellation Brands' stock chart to see how investors' expectations have changed over the last year. The stock has returned 76% since last summer, when it completed its $4.75 billion acquisition of Grupo Modelo's U.S. beer business.
The acquisition gives Constellation full control over Corona and Modelo brands in the U.S. It also boosted Constellation's sales by $2 billion in fiscal 2014 (which ended Feb. 28), accounting for 41% of total sales. Constellation's beer segment now represents half of total sales and grew 10% last year -- a stellar result in a mature industry.
Will the fizz run out?
However, the other half of the business is not doing quite as well. Constellation's wine and spirits sales grew just 2% last year. There's nothing wrong with Constellation's brands -- Robert Mondavi, Arbor Mist, and Clois du Bois continue to be strong players in the wine market -- but the economics of wine are less than stellar. The industry often goes through periods of deep discounting, especially when weak sales one year lead to excess inventories in the next. This makes it difficult to turn a consistent profit.
The difference between the wine business and the beer business is made clear by looking at Constellation Brands' organic sales growth. Consolidated organic sales grew, on average, by 2.6% since 2005.
Even if the beer business grows by low-double digits for a few years, the wine business will be a permanent drag on growth going forward. As a result, investors should not expect more than mid-single digit long-term sales growth from Constellation Brands.
Is Boston Beer a better buy?
Boston Beer is also a highflier. Unlike Constellation Brands, Boston Beer's growth is not anchored by a slow-growth wine segment. Instead, its craft beer -- led by Sam Adams -- is driving double-digit annual sales increases. The company estimates that the U.S. craft beer category grew 15% in 2013. Boston Beer's 2013 core shipment volume grew 25%, demonstrating that the company's leading craft beer continues to gain market share.
However, high growth comes at a high price. Boston Beer trades at 35 times this year's earnings estimates, while Constellation Brands trades at a more tame 21 times earnings. A simple inversion demonstrates how much earnings you get today for each dollar you pay: Flipping the price-to-earnings ratio gives you a 2.8% earnings yield for Boston Beer (1/35) and 4.8% earnings yield for Constellation Brands (1/21).
Both companies own beer businesses that are growing at a double-digit annual rate, but Constellation Brands will grow more slowly because of its wine business. However, that does not make it a worse investment. Instead, investors who buy Constellation are getting more in today's earnings and paying less for future growth. On the other hand, Boston Beer shareholders are not getting as much in today's earnings but have a better chance of reaping gains from future growth.
When it comes down to it, investors who prefer safety of principle will be biased toward Constellation Brands. Investors who prefer large potential upside will be biased toward Boston Beer. Neither approach is right or wrong -- but investors should choose the one that best suits their temperament.