Constellation Brands: Tepid Margins, but Outlook Intact
The brand assets that underpin the narrow-moat beverage producer's competitive edge remain healthy.
Narrow-moat Constellation Brands (STZ) continued to post solid top-line results in the first quarter, with further strength in beer volumes driving net sales growth of 6%. The beer segment (which contributed roughly two thirds of sales this quarter) reported 11% revenue growth on an 8.6% increase in shipment volumes, tracking in line with our annual outlook for 8%-9% volume growth and around 150 basis points of pricing. However, from a profitability standpoint, the segment fell slightly short of our expectations, with operating margin contracting 230 basis points to 37.8%. However, we attribute this decline to a variety of factors that are more short-term in nature, including higher transportation costs (which have been an industrywide headwind for the last several quarters) and an uptick in marketing spending to support product launches in the first half of its fiscal year. As such, we plan to maintain our outlook for segment operating income growing with or above revenue this year, and for segment operating margin averaging north of 40% over our forecast (versus 39.5% in fiscal 2018). We don't anticipate a significant change to our $192 fair value estimate outside of adjustments for the time value of money, which shouldn't alter our valuation by more than a low-single-digit rate. While shares have fallen by a mid-single-digit rate on the announcement, we'd still suggest investors wait for a more attractive entry point.
From our perspective, Constellation's strengthened marketing investments, which increased 110 basis points to 11% of sales is a prudent choice, as we contend this spending will be needed to support the launches of new products like Corona Premier (a lower-calorie, lower-carbohydrate offering) in an intensely competitive domestic beer market. Management indicated that it was able to quickly gain distribution and grow velocities for this product, which we view as evidence the brand assets that underpin its competitive edge remain healthy.
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Sonia Vora does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.