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Nathan Parsh
Nathan Parsh
Articles (74) 

Constellation Brands: Why Product Strength Makes it a Buy

Constellation Brands recently reported solid quarter and fiscal year results

April 09, 2020 | About:

Many areas of the economy that depend on consumer spending have suffered as people are staying home due to slow the spread of Covid-19. The leisure industry, including hotels, cruise lines and casinos, has seen much or all of is business dry up. Airlines are seeing a sharp reduction in passengers, and the restaurant business has been reduced to drive thru or carry out only ordering in most places in the country. The stocks of many of these companies have acted in kind and experienced a steep drop in share price.

However, there are other companies and stocks that are holding up fairly well under the circumstances. In difficult times, I want to own these types of companies, as their inocme is less subject to market volatility.

One stock doing just that is Constellation Brands (NYSE:STZ), which has seen its share price drop approximately 17% year-to-date as of April 9 compared to a 13% drop for the S&P 500 over the same period, despite business remaining strong. This article will look at the company’s business, recent earnings results and dividend history in order to determine if now is the proper time to buy the stock.

Company background and recent earnings

Constellation Brands is a leader in the alcoholic beverage space. The company has more than 100 brands in its portfolio, including top beer brands such as Corona Extra, Corona Light, Modelo Especial, Modelo Negra and Pacifico. Constellation Brands has a craft beer segment as well. The company’s premium wine and spirits brands include SVDEKA Vodka, Casa Noble Tequila, High West Whiskey, Clos du Bois, Kim Crawford and Mark West. Constellation Brands also has a 37% equity stake in Canadian-based cannabis products company Canopy Growth (NYSE:CGC).

On Friday, April 13th, Constellation Brands released the earnings for its fourth quarter and fiscal year 2020, which ended on Feb. 29, 2020. Top line results of $1.9 billion represented growth of nearly 6% for the quarter. This was $67 million higher than the analyst community had expected. EPS grew 12% to $2.06, coming in $0.40 ahead of consensus estimates. For the year, net sales increased 3%, but EPS decreased 1.6% to $9.13. Adjusting for equity losses in its Canopy Growth investment, EPS grew 15% for the fourth quarter and by 6% for fiscal 2020.

Constellation Brands is the third largest beer distributor in the U.S., with two-thirds of annual sales coming from this category. Depletion growth, which is the rate at which beer already shipped from a producer to a distributor leaves the distributor’s warehouse to consumers, grew nearly 11% for the quarter and 8% for the year. This shows that demand increased at a higher rate in the most recent quarter. Net sales were higher by 9% for Q4 and 8% for full year 2020.

Much of this growth was due to the performance of the Modelo and Corona brands. The Modelo brand had depletion growth of 18% in the quarter. Modelo Especial is one of the fastest growing imported beer brands and had depletion growth of 16% for the year. Corona Premier had double-digit growth for the year. The company’s launch of Corona Refresca also contributed 5% depletion growth for the brand.

Wine and spirts wasn’t as successful, as shipment volumes declined 1.4% for the quarter and 8.4% for the year. Depletion volumes were down 0.6% for Q4 and 5.2% for full year 2020. While net sales did improve 1.2% for the last three months of the year, they decreased 6.4% for the year. Constellation Brands is in the process of selling off certain products in this category, which partly explains the year-over-year declines.

Top brands like Kim Crawford outperformed the overall category due to a favorable sales mix from higher-end products. These brands also had depletion growth of 4% for the quarter. High-end wine and spirts also had 23% growth in the last four weeks of the fiscal year.

Constellation Brands had operating cash flow of $2.6 billion and free cash flow of $1.8 billion for the year, both of which were company records. Overall, I think Constellation Brands has a solid fourth quarter and full year. Wine and spirits sales were disappointing, but the performance of top brands is a positive.

In the longer term, I believe Constellation Brands should remain a strong force in its sector. Beer sales are expected to increase at a high single-digit rate. The company had guided towards at least 7% sales growth this year. Wine and spirits is expected to drop at least 30% for fiscal 2021, but this is mostly due to the company’s divestitures of these non-core products.

Canopy Growth remains a headwind as well, but the company has a new CEO, a significant market share in Canada and is launching new products such as its first cannabis beverage, Tweed Houndstooth & Soda. It also made its first shipment of cannabis-infused edible chocolates.

Constellation Brands did pull its guidance for the fiscal year due to the impact of Covid-19. While many liquor stores remain open, most bars and restaurants are only providing carry out service. This will likely impact sales. Constellation Brands had expected adjusted EPS of $9.45 to $9.50 for FY 2021.

While Covid-19 may cause a headwind in the coming months, Constellation Brands’ product strength is likely to propel sales higher in the coming years. This sets the company up to be able to return capital to shareholders.

Dividend analysis

Constellation Brands has only paid a dividend since 2015, but the growth in that short period of time has been remarkable. Dividends have compounded at a 19% clip since 2015 to the present year.

That growth has slowed recently, however. The company raised its dividend just 1.4% for the May 24, 2019 payment following increases of 42.3% and 30% the previous two years. After not raising its dividend for the payment scheduled for the middle of May 2020, Constellation Brands has now paid the same quarterly dividend five consecutive quarters.

I am not terribly concerned by this development. Constellation Brands, and the rest of the economy, is very much in uncharted territory at the moment. Given the uncertainty, it is prudent that the company doesn’t increase its dividend. No dividend increase is better than a dividend cut or suspension that many companies in the consumer discretionary sector have already announced.

Constellation Brands paid out $569 million of dividends last fiscal year, representing a free cash flow payout ratio of just 31%. This is a very low payout ratio, which likely protects the dividend even if free cash flow is reduced drastically.

The company has also taken steps to improve its balance sheet, as it retired $2.2 billion of debt in fiscal 2020. This puts the company in a much stronger financial situation.

While dividend growth may not be in the offering until we are past sheltering in place and social distancing orders, Constellation Brands’ dividend is likely safe.

Final thoughts

In a difficult environment, I believe Constellation Brands performed pretty well. Fourth quarter and fiscal year results were solid, showing both top and bottom-line growth.

The company has pulled its guidance for the current year and didn’t raise its dividend as usual, but these are the right moves at this time, as there isn’t much visibility short term.

Over the longer term, Constellation Brands has a bright future, in my opinion. It has a strong portfolio of beer brands that continue to show growth, and the company is divesting certain wine and spirits that aren’t critical. Even the company’s investment in Canopy Growth should work out long term, given its market share and leadership position in cannabis products.

Author disclosure: The author has no position in any stock mentioned in this article.

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About the author:

Nathan Parsh
I was originally born in Detroit, Michigan, before moving to Maryland to begin a career as an educator. This is my 14th year teaching. My wife and I have two young children who keep us on our toes.

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