This 16% Undervalued Stock in an Overvalued Sector Is a Buy Today

Wide-moat Constellation Brands is having a tough 2024: While beer sales of Corona and Modelo have been solid, its wine and spirits business is struggling due to ongoing consumer belt-tightening and a lack of top brands. It’s no wonder, then, that while consumer defensive stocks as a group look overvalued today, Constellation’s stock looks cheap, trading 16% below our fair value estimate. But we think there’s plenty to like about the company—including a strong balance sheet and an increasing dividend—and we expect 6% sales growth annually over the next decade. Constellation Brands appears on Morningstar’s Best Companies to Own list. Morningstar chief US market strategist Dave Sekera explains why he thinks the stock is a buy in 4 Risky Stocks to Sell and 4 Picks to Buy Instead.

Constellation has earned its perch as the top player in the attractive premium import beer segment in the US, thanks to its 2013 acquisition of exclusive distribution rights in that market for Mexican beer brands including Modelo and Corona. We give the brewer credit for a series of smart ad campaigns over the past decade, as well as strong quality control in its brewing operations, which has bolstered and reinforced the popularity and premium positioning of its two crown jewel brands. While overall beer volume in the US has been stagnant for years, Constellation has capitalized on premiumization tailwinds to drive high-single-digit volume growth in past years. The company has struggled to turn around its wine and spirits business, but we expect Constellation to remain agile and pragmatic in navigating the evolving competitive and macro environment and to continue to thrive, thanks to its brand prowess and operational expertise.

Key Morningstar Metrics for Constellation Brands

• Fair Value Estimate: $291
• Star Rating: 4 Stars
• Economic Moat Rating: Wide
• Uncertainty Rating: Medium

Economic Moat Rating

We believe Constellation has a wide moat, thanks to its portfolio of top-selling Mexican beer brands that underpin strong brand equity and tight distributor partnerships in a beer business that makes up 80% of total revenue. Scale-based cost advantages are less notable, given the parochial nature of beer markets, though we still believe Constellation benefits from savings in procurement and marketing relative to smaller brewers. We don’t see a moat in its wine and spirits business, given the lack of top-tier spirits brands and evidence that consumers shop for wine on grape variety, vintage, and price but rarely on brand. Despite the divergent standing of its two segments, we believe Constellation enjoys a durable competitive position in aggregate buttressed by brand intangibles and cost advantages. We expect it to deliver returns on invested capital (including goodwill) above our estimated weighted cost of capital of 7% for more than 20 years.

Read more about Constellation’s moat rating.

Fair Value Estimate for Constellation Stock

Our $291 fair value estimate implies a 21 times multiple against our adjusted fiscal 2025 earnings estimate and a 2025 enterprise value/adjusted EBITDA multiple of 18 times. We forecast 5.9% sales growth and $13.76 in earnings per share for fiscal 2025; this aligns with the company’s outlook for 4%-6% sales growth and adjusted EPS of $13.60-$13.80. Over our 10-year forecast horizon, we project sales to grow at 6% annually. We model operating margin to widen by 40 basis points (relative to 2024) to 32.2% at the end of our 10-year forecast period, with the improvement driven entirely by gross margin expansion to 51% in fiscal 2034 versus 50.4% in 2024, thanks to brewing efficiency gains. We forecast advertising and marketing expenses to rise to 8.8% of sales by 2034 from 8.6% in 2024 as the firm invests more in newer beer brands.

Read more about Constellation’s fair value estimate.

Risk and Uncertainty

Water shortages in Mexico are a major risk that Constellation will have to confront in the coming decades. These could disrupt brewing operations or slow capacity expansion. The company had to scrap plans for a brewing plant in 2020 due to public objection based on high water usage; it took two years to identify another suitable site in Mexico with sufficient water supply. In addition to craft brewers, Constellation faces a new crop of competitors such as hard seltzers and spirits-based ready-to-drink beverages. With growing health awareness among consumers, Constellation has the challenge of keeping a delicate balance between taste appeal and health considerations. Popular beer brands like Modelo and Corona are constantly under the scrutiny of consumers, given the ubiquity of mobile phones and social media.

Read more about Constellation’s risk and uncertainty.

Constellation Bulls Say

• Strong brand equity and well-established distributor relationships will continue to fuel beer volume expansion for Constellation.
• Efforts to secure water supply and expand brewing capacity in Mexico should pave the way for solid revenue growth.
• Investments in digital capabilities and e-commerce distribution partnerships should give the firm a competitive edge in reaching consumers in their 20s and 30s, an attractive cohort for brewers.

Constellation Bears Say

• Distribution rights surrounding the Modelo and Corona brands limit Constellation’s beer operations to the US market and prevent the firm from replicating its success internationally.
• Constellation faces competition from a host of beverage innovations with alcohol content similar to beer while offering new flavors and new consumption occasions.
• Weak performance in the wine and spirits segment weighs on overall margins and returns.

This article was compiled by Susan Dziubinski and Sylvia Hauser.