Updated to reflect Goldman Sachs, Fitch comments and analyst estimates
NEW YORK (
$3.5 billion push into heavy-drinking emerging economies may come up light on beer growth.
To combat declining sales in key U.S. and Canadian beer markets and falling profits, the maker of Coors Light and Molson announced a foray into recovering eastern European markets with the acquisition of Czech Republic-based
, the brewer of Staropramen beer.
But the U.S.-Canadian beer conglomerate may be targeting the wrong emerging economy.
A closer look at Molson Coors' acquisition and its strategy of counting eastern Europe as a growth market casts doubt on whether the struggling beer company put its cash and balance sheet to work in the most effective way for shareholders.
"We are not as constructive as management is on the deal as we believe TAP is a more attractive story when deploying capital back to shareholders and focusing on an improving U.S. market," JPMorgan analyst John Faucher wrote in a note Tuesday.
Going into this year, Molson Coors shares were recovering from a big 2011 slide as the company launched its first post-crisis share buyback program in September and added to it at the end of the year. The Denver-based company also raised its quarterly dividend from 28 cents to 32 cents in June. Tuesday's deal could halt Molson Coors' share momentum, as the company is bottling up the buyback program in favor of funding the acquisition.
In late Wednesday trading, Molson Coors fell nearly 3% to $41.98, adding to an over 5% Tuesday stock drop on the deal announcement. The drop puts Molson Coors shares in the red for 2012, adding to its stock underperformance compared with beer giants like
and even the
Boston Beer Co.
, popularly known as Sam Adams.
For Molson Coors, the acquisition may be light on revenue growth opportunities, and even management said that cost savings will be minimal, at best. Previously, StarBev was owned by private equity firm
CVC Capital Partners
in a multiyear investment that produced cost cuts and improving margins.
Through the deal, Molson Coors can claim access to faster-growing economies than the U.S., Canada and Great Britain, where the company generates the bulk of its sales. The economic outlook in StarBev's key markets like the Czech Republic, Serbia, Croatia, Slovakia and Hungary also anticipates faster growth than the Eurozone, but beer consumption may not track GDP growth. Already StarBev's markets have an established beer drinking tradition compared with Asia and Latin America.
Put another way, just how much bigger can the Czech beer gut get?
If you thought the U.S., Canada and Great Britain could cut back on suds, consider that in StarBev's home market, the Czech Republic, the average person drinks 144 liters of beer in a year, roughly double the drinking in North America and the U.K., according to
. In 2010 and 2011, beer consumption in the Czech Republic, Hungary and Serbia fell, while Croatia posted a moderate 1.3% increase.
"While we believe StarBev's brands have grown in the
low- to middle-single digit range in the past few years, per-capita consumption in several countries where StarBev operates is already very high," wrote Faucher of JPMorgan.
Goldman Sachs analysts say that the deal could add between 2% to 6% to Molson Coors earnings per share in coming years, on GDP-like sales growth and tax efficiencies. Still risks remain, even as the company enters beer markets that can outpace stagnation in North America and the U.K. "
Any growth potential in these markets will likely be dependent on slightly faster macro-economic growth prospects and TAP's ability to gain share through innovations and introducing more premium offerings," wrote Judy Hong in a Tuesday note maintaining a $46 price target and a "neutral" rating.
Molson Coors may be showing discipline by targeting a European deal.
"Molson Coors is a little apprehensive to do a transaction of this size in markets where they don't have a lot of experience such as Asia," says Brian Yarbrough, an analyst with Edward Jones, who sees the acquisition as a cheap way for the company to grow profits, which have fallen in successive years to $676 million.
Overall, analysts polled by
give Molson Coors shares a price target of $45.80 on expectations that company profits will continue to fall in 2012, to $651 million.
Growth rates aside, Molson Coors isn't buying brands that can be taken to beer consumers in the North America. Management highlighted Staropramen, a Czech beer with 7% of the local market as the beer tradition that it's acquiring with StarBev. When U.S. drinkers think of eastern European pilsners, they're likely to know SABMiller-owned Pilsner Urquell over Staropramen or StarBev's other brands Borsodi, Kamenitza and Bergenbier.
When assessing Molson Coors strategy, consider that high-quality European brands like Heineken are stealing market share in North America from light beers, while Asian brewers like
Beijing Yanjing Brewery
are showing the biggest overall beer market share gains globally. Some Asian brewers like Kirin and Asahi were reported to have passed on StarBev.
With little developed market appeal for StarBev's brands, as management conceded when announcing the deal, Molson Coors is pinning its hopes on what may be an expensive strategy to upscale brands in local markets. Meanwhile, forget selling Coors Light or Molson Ice to European beer consumers.
"We've seen attractive opportunity in the above-premium segment which is still developing and, at this point, accounts for only 10% of total beer volume," said Molson Coors Chief Executive Peter Swinburn in an analyst call on Tuesday. But that strategy may prove to be expensive, as Molson Coors indicated when it said that it would invest roughly $130 million a year to grow StarBev. In contrast, the company only expects to achieve $50 million in cost savings by 2015.
"We believe that Molson Coors will face challenges as it integrates the StarBev businesses and navigates the management of a collection of markets that are at differing stages of development in terms of the maturity of each beer market, its per capita consumption, the stage of development of a middle class and the nature of
retail trade," said Linda Montag a Moody's Senior Vice President when announcing a 1-notch downgrade of Molson Coors debt ratings to Baa2.
Still, Molson Coors is capturing low interest rates to cut a deal that is expected to add to earnings, which have fallen on the slowing of beer consumption in North America and Great Britain as drinkers add craft beers, wine and hard alcohol to their drinking repertoire. "They are generating above their cost of capital. When debt is this cheap, why not take on more debt," adds Yarbrough of Edward Jones.
That may prove to be an opportunistic push, especially if eastern European economies recover faster than expected on a waning eurozone debt crisis. "Following the acquisition about 14% of the company's revenue will be generated from emerging markets mainly within continental Europe," notes Fitch Ratings in a report giving Molson Coors bonds a BBB rating.
Molson Coors said it would use a combination of $3 billion in cash and debt and $667 million in convertible securities to finance the deal, in a move that may be a smart use of capital, even if shareholders would prefer buybacks.
A Molson Coors spokesperson did not immediately respond to a voicemail.
For more on investing in beer and alcohol, see the
for more on potential M&A targets.
-- Written by Antoine Gara in New York