Boston Beer: Wait for the Foam to Settle

Adam Fleck: We've seen a craft revolution in the U.S. beer industry over the past decade, and we think this trend is going to continue for the foreseeable future owing to strong demographics from the millennial generation primarily. As a result, we think that craft beer will eventually climb to north of 20% of total U.S. beer volume by 2020 from about 11% today. But we think that leading craft brewer Sam Adams, or Boston Beer (SAM), is likely to see slowing growth and continued market share loss owing both to the rise of small local niche producers and continuing marketing investment behind big brands from AB InBev (ABEV) and MillerCoors such as the Goose Island label and Blue Moon.

Outside of beer, Boston Beer has found very strong success in the Angry Orchard hard-cider market; but here, too, we see increasing competition and ultimately slower growth for Boston. Now, slowing revenue growth is not necessarily a bad thing; it should allow management to refocus on increasing operating profitability and free cash flow generation--both of which have lagged in recent years.

Ultimately, we think that the company's moat is constrained to narrow owing to its more limited economies of scale versus its larger peers and a more fickle consumer base that has been more willing to try new flavors and new brands compared with a loyal base in the mainstream beers like Bud Light.

Overall, we think the market is not appropriately pricing in the fact that Boston Beer will likely see slowing revenue growth and the competitive position of the company. It currently trades at a significant premium to our $208 fair value estimate.