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Morningstar | United Breweries' (CCU) Solid 3Q Volume Growth Despite Macroeconomic Headwinds; Shares Fairly Valued

United Breweries' (CCU) underlying performance remained solid in the third quarter, as strong volume performance (up nearly 11%) was obscured by unfavorable macroeconomic conditions (namely, hyperinflationary accounting in Argentina and the depreciation of the Argentine Peso), leading net sales to decline by 1.6%. However, the firm's ongoing efforts to extract costs from its manufacturing processes helped offset these pressures, allowing operating margin to expand 70 basis points to around 12%. Further, we remain encouraged by strength in the firm's core Chilean business (which contributes about two thirds of sales), which posted 7% sales growth on strong consumer confidence and share gains as well as 150 basis points of operating margin expansion to 14%. While pricing in this segment was dented by product mix and promotional activity (with net sales per hectoliter decreasing by 60 basis points), we contend CCU should be able to leverage its dominant position in Chile (where it has a 40%-plus volume-weighted share across the beer and nonalcoholic beverage categories) to maintain pricing above inflation longer term. This entrenched share position, coupled with its vast distribution network in Chile, confers CCU with a narrow moat, in our view.

While CCU's year-to-date sales are tracking moderately below our expectations (at nearly 4%, versus our 6% full-year estimate) as a result of these conditions, year-to-date adjusted EBITDA margin (excluding a one-time cash payment received in the second quarter) stood at 19.3%, matching our full-year expectation. As a result, we aren't anticipating a material impact to our $25 fair value estimate as we incorporate these results, and are reiterating our longer-term outlook, which incorporates mid-single-digit sales growth and operating margin around 15% (versus 14% in 2017) on average over our forecast.

While the international business (which now includes Bolivia, in addition to Argentina, Uruguay, and Paraguay, after the firm raised its stake in Bebidas Bolivianas to 51% from 34%) faced inflationary challenges in Argentina, underlying results were strong. Volumes in this segment (22% of sales) were up 24% (or 17% excluding Bolivia) reflecting strong demand within the firm's beer portfolio. We expect CCU's focus on product innovation, price/pack architecture, and extracting cost savings from its operations should help moderate inflationary headwinds in this segment longer term, but note near-term results may be choppy.