Who's Got the Next Round of Beers?
Revelations about merger talks among giant beer makers could put a little froth in the stocks of their pint-size rivals.
Europe's three largest brewers reignited merger talk in the beer business last week, but the biggest winners in any clash of the Titans could be those invested in the region's smaller drinks companies.
The saga kicked off on Sunday when Dutch company Heineken (ticker: HEX.Netherlands), the world's third-largest brewer by beer volume, confirmed a report that it had rejected an approach by British rival SAB Miller (SAB.UK), the second-biggest player.
Investors barely had time to sup that frothy glassful before they were faced with another. On the following day The Wall Street Journal reported that the world's No. 1 brewer–Belgium's Anheuser-Busch InBev (ABI.Netherlands) -- was busy scraping together enough money to bid for SAB Miller.
Market speculation of an SAB Miller, InBev tie-up has been touted frequently in recent years as they grappled with falling demand in Europe and the Americas.
Ironically, this renewed talk of a brewery megadeal appears more plausible now because of the big brewers' financial strength rather than their weakness. InBev, which on top of Budweiser counts Stella Artois, Beck's, and Corona among its brands, has pulled off some smart deals that have helped boost cash-flow and reduce debt.
Any one of these possible combinations would require a lot of financial firepower. InBev has a market value of about $183 billion. SAB Miller is roughly half that size -- a still-whopping $95 billion. By comparison Heineken looks deceptively like small beer at $44 billion.
SAB Miller–the maker of Foster's, Peroni, and Miller -- reportedly tried to sell the idea of a tie-up to the Heineken family by suggesting it would secure the Dutch company from a hostile InBev bid. Some analysts have suggested that SAB Miller may have gotten wind of InBev's fund-raising and decided that it needed to protect itself.
Christopher Garsten, who manages the 2CG European Capital Growth fund, owns Heineken stock, which has risen about 15% this year. He suggests it might be the cheapest way for the major players to tap growth markets, where deal-making can be tricky. "Heineken found that out when they had to pay a fortune for Asia Pacific Breweries," he says. It paid $6.4 billion for control of a joint venture with the maker of Singapore's Tiger beer in 2012.
The geographical benefits of InBev's tying up with any of its main rivals are persuasive. According to Bernstein Research, the Americas still count for around 70% of InBev's beer volume while Asia-Pacific is at only 17%. Bernstein figures show it to have 15% across Europe and nothing in Africa. At rival SAB Miller, the potential growth markets of Asia-Pacific and Africa represent almost half of its volume.
After disclosure of the merger discussions, SAB Miller's shares racked up the strongest gains, up 10% on Monday. InBev rose 3% and Heineken was up 1.3%. Not bad on a day when the Stoxx Europe 600 index ended down 0.1%.
Smaller players rode the updraft, too. Among them: Danish brewer Carlsberg (CARL.A.Denmark) and Diageo (DGE.UK), the British owner of Guinness that also makes spirits. Both stocks gained over 2% once the news broke.
While the bigger brewers now look fully valued, the smaller ones don't. The favorable fallout from a megamerger could benefit investors in those companies in two ways. The most obvious is that they may become targets. They may also be able to pick up well-priced assets if antitrust concerns force the market leaders to peel off businesses.
Kepler Cheuvreux analyst Richard Withagen has Carlsberg at Buy with a 650 Danish krone ($113.14) target price, about 10% above recent levels. He says the brewer has good prospects in Western Europe. "The company showed that it has gained share in the past four years and has grown sales and operating margins in the region. Similar to what we have seen at Heineken, innovations have helped growth rates substantially," Withagen says. Carlsberg's sizable Russian business has pressured its stock recently due to political and economic tensions. Its stock closed at DKK583, down 0.34% on Friday.
Diageo has also struggled and, like Carlsberg, is among the sector's previously less-popular plays. A week before consolidation hopes lifted the stocks, Numis Securities analyst Wyn Ellis said in a note: "Diageo, in our view, has promising medium-term growth attractions, but it faces continued short-term challenges in volatile emerging markets, stagnant demand in Western Europe, and needs to demonstrate progress in revitalizing the Smirnoff brand in North America." He has a Hold on the stock with a 19 pound ($31) target price. It closed Friday at £18.26, up 0.38%.
A little more consolidation would help both brewers.