Glenboden M & A Originations

Constellation Brands more vulnerable after poor sales performance

Priority Rating priority rating 4
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Origination Status announcement of Q3 2009 results, January 2009
Asset Constellation Brands Inc. (USA), global no.1 wine producer by volume
Buyer candidates include The Wine Group, or private equity
Seller public shareholders of CB
Buyer Rationale opportunism, brands, scale
Seller Rationale acceptable valuation, high debt, poor growth prospects, margin pressures
NBs CB’s estimated net debt to EBITDA ratio is over 8,0 (2009F)
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Constellation Brands has underlined its commitment to increasing free cashflow and investor returns, even at the expense of its longer term growth prospects. At the same time, it has a long way to go to reduce its huge debt burden to more normal levels. We believe that the group won’t make it, because of the de-premiumisation pressures on its branded wine portfolio, which have also affected the no.2 global wine player, Foster’s, very severely. Expect a public -to –private acquisition of CB going into 2009.

Over 80% of CB’s sales revenue is from branded wine, where it has a huge portfolio of nearly 250 brands. The group’s aim in fiscal 2009 has been to rationalize this portfolio down to the more premium offerings; for example in Australia the number of SKUs has been reduced by 30%. This is fine in terms of increasing average price per bottle sold, and thus margins also, but it has a price in terms of lower volume sales.

CB’s total sales revenue in Q3 2009 declined by 6%, but in volume terms the drop is likely to have been significantly greater. We believe this is dangerous in terms of the group’s longer-term growth prospects. Wine is a fragmented and artisanal business, with relatively low consumer brand loyalty and repeat purchase levels, compared with beer or spirits. For that reason a producer should not be too reliant on a narrow portfolio of premium brands; the risk is too great that these brands will need to de-premiumise their price points in order to survive in future.

On top of that, CB is very highly indebted; one could say that the group’s in a race against time to reduce its borrowings before its free cashflow is squeezed. This is a race that it may not win; not only because of de-premiumisation hitting its margins in future, but also because there’s a limit on the asset sales and plant closures that CB can implement without losing too much scale.

With net debt of about $ 4,5 bln at the end of Q3 2009, compared with a forecast EBITDA number for FY 2009 of about $ 550 mln, the group has a debt ratio of over 8,0 which is very high even by alcohol beverage standards.

CB’s M&A track –record in the last two years has both been a cause and a symptom of its underlying problems. It has overpaid for the acquisition of both Svedka vodka and Fortune Brands’ premium wine portfolio.

In the case of Svedka, it paid upwards of x5 sales for a very young brand, with a controversial positioning that may lack scalability both in demographics and geography.

In the case of Fortune Brands, it paid x4 sales for a wine portfolio headed by Clos du Bois, the no.2 super –premium wine brand in the US. This is too high, because of the de-premiumisation pressures that are bound to affect those brands in future.

One only has to look as far as the main portfolio divestment made by CB in 2008, that of the Almaden and Inglenook wine brands to The Wine Group, to see that adverse trajectory very clearly; that portfolio was sold for only x1 sales, causing CB to incur a pre-tax loss from the transaction of over $ 25 mln. How long before Clos du Bois goes the same way ?

CB’s main rival in branded wine, the global no.2 player Foster’s, announced a A$ 800 mln write-down in its underperforming wine business in 2008. This proves that even a premium portfolio that includes stellar Australian and Californian brands like Penfolds and Lindemans is vulnerable to impairment.

Apparently, Foster’s has suspended the divestment of this business unit, because it can’t find a buyer prepared to pay a reasonable price. We predict that, at some time in 2009, CB will be in the same position, but without a strong beer business to support it as Foster’s has. In that case it will have to be sold, at whatever price is available, either to private equity or to a discount wine player like The Wine Group.

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THIS LEAD'S VALUATION
Size (€ mln) 5.800
Sector wine
Asset Quality global no.1 branded
Seller large plc
Buyer private equity
P/S 2,0
P/Ebitda n/a
Type value estimate
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