For Buffett, Something Stronger Than Coke

Shares of

Anheuser-Busch

(BUD) - Get Report

jumped Thursday on news that Warren Buffett took a shine to the king of beers.

The stock was recently up $2.94, or 6.5%, to $48.04 after it announced that

Berkshire Hathaway

(BRK.A) - Get Report

, the holding company run by the legendary Buffett, became a "significant shareholder" in the brewing giant.

Known as one of the most successful value investors in history, Buffett's investment choices are closely followed by Wall Street. When Buffett revealed a stake in

Pier 1

(PIR) - Get Report

last August, the stock gained almost 9% in one day.

The stake didn't appear to be contained in any recent regulatory filings. Still, Anheuser-Busch looks like a classic value play for the Oracle of Omaha.

With consumer-driven stocks in a tailspin, the brewer of Budweiser and Michelob beer has been hit particularly hard in recent months, due to concerns about the domestic beer market. A price war has been developing between Anheuser-Busch, the market leader, and

Miller Brewing Company

and

Molson Coors Brewing

(TAP) - Get Report

, the Nos. 2 and 3 players, respectively. Meanwhile, wine and spirits companies, like

Constellation Brands

(STZ) - Get Report

, have also been stealing market share as consumers shift to more weight-conscious beverage options.

"We had hopes that

Anheuser-Busch's innovation pipeline might be able to pull the company out of its funk, but the results just aren't there yet," wrote Bear Stearns analyst Carlos Laboy in a recent research note. Laboy downgraded the stock to peer perform in March.

In early April, the company confirmed many of the concerns about its short-term business prospects when it shaved its 2005 earnings forecast for the second time since February. It said its 2005 profits would grow in the low single digits.

Before Thursday, the brewer's shares had shed 15% of their value since June 2004. At last night's close of $45.10, they traded at around 16 times 2006 earnings estimates. At that level, Morningstar analyst Matthew Reilly said the shares looked cheap. Using a discounted cash flow model, he estimated the company's fair value was closer to $64 a share, offering significant upside opportunity to today's price, even after the market added the Berkshire premium.

"Although we expect 2005 to be a difficult year for Anheuser-Busch and the domestic beer industry overall, we feel that investors with the perseverance to hold on to the stock through tough times will be rewarded when the domestic market improves," Reilly wrote in a recent research note. "We believe that short-term disappointments can provide some of the best opportunities to pick up shares of dominant, wide-moat firms such as Anheuser-Busch."

The company controls nearly half of the American market and has more than twice the share of its nearest competitor. With an annual dividend yield of 2.2% and free cash flow of about $1.85 billion, it offers some safety. Now, it is focusing on product innovation and packaging to rebound from its recent hard times, and Reilly thinks its exclusive distributor base, which accounts for about 69% of domestic volume, will help it succeed.

"This allows the company to roll out innovations faster and on a larger scale than any of its brewing competitors, which we estimate have less than 5% of volume flowing through exclusive distributors," Reilly said. "Due in part to this advantage, we believe that Anheuser-Busch can outpace domestic beer growth over the long run."

Apparently Buffett, known as a buy-and-hold investor, agrees. As a longtime investor in

Coca-Cola

(KO) - Get Report

who once held a stake in

Guinness

, he presumably has a good understanding of the beverage business that may have emboldened him to buy Anheuser-Busch.

"It is no surprise that Buffett likes this company," said Mohnish Pabrai, managing partner with Pabrai Investment Funds. "It is a well-managed company with a healthy balance sheet, and it's a cash cow. Over the long run, he probably sees in all likelihood that he can make better than 10% annual returns on the investment."