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Morningstar | Boston Beer to Join Forces With Dogfish Head, Solidifying Leading Position in U.S. Craft Beer

Narrow-moat Boston Beer has announced that it will merge with Delaware-based craft brewery Dogfish Head, in a roughly $300 million cash and stock transaction. The deal, which is expected to close late in the second quarter of 2019 and be neutral to slightly accretive in 2019, will bring together the second- and thirteenth-largest domestic craft producers (according to the Brewers Association definition), and add brands like 60 Minute IPA and SeaQuench Ale to Boston Beer's mix. We expect to lift our $226 fair value estimate by a low-single-digit percentage to incorporate Dogfish Head's solid growth trajectory, but even with this revision, continue to view shares as substantially overvalued.

We appreciate the strategic rationale of the deal. Dogfish Head is on track to sell nearly 300 thousand barrels in 2019 (roughly 6% of the total volume we had expected for Boston Beer this year), expanding by a high-single-digit percentage over the year prior. In contrast, Boston Beer's top line has been fueled by offerings like Truly Hard Seltzer and Twisted Tea as of late, while performance within the Samuel Adams brand family has deteriorated. According to GlobalData, Dogfish Head's volume has averaged high-single-digit growth over the past three years, while Boston Beer's volume (which includes beer, cider, and flavored malt beverages) has been roughly flat. While Boston Beer's management has already reinforced investments behind its flagship offering, we think the addition of Dogfish Head should further augment its positioning within the beer category. Further, management's outlook for $110 to $120 million in sales in 2019 implies revenue per barrel around $383 at its midpoint, versus the $235 we expect for Boston Beer, suggesting robust pricing. The total transaction amount represents a 2.5 to 2.7 times multiple of Dogfish Head's anticipated 2019 sales, which strikes us as reasonable given its attractive brand set and growth prospects.

While we see opportunities for distribution synergies (given that we don't expect a complete overlap in the firms' third-party distribution networks), we don't expect the tie-up to have a material bearing on Boston Beer's competitive positioning. The combined entity will still account for less than 2% of the beer sold in the United States, and we contend it will continue to face intense competition from both craft players, which continue to grow at a rapid clip (13% in 2018), as well as the largest beer producers. And we don't expect competition within the craft category will abate. According to the Brewers Association, craft beer volumes grew nearly 4% in 2018 (representing 13% of the domestic beer market), while the overall category declined by 80 basis points. Excluding craft and imported variants, beer volumes fell around 3%. Still, we expect the addition of Dogfish Head's brands will allow Boston Beer's relationships with distributors (which underpin our view of its narrow moat) to remain strong.

We view the combination as prudent from a capital-allocation perspective. Sam and Mariah Calagione (cofounders of Dogfish Head) will receive around 406,000 shares of Boston Beer's stock at a price of $314.60 and Dogfish Head shareholders will receive $173 million in cash. Boston Beer plans to finance this with cash on hand and its currently available credit; it had nearly $103 million in cash and no long-term debt on its balance sheet at the end of the first quarter, with no borrowings outstanding on its $150 million revolving credit facility. Further, we aren't anticipating a change to our Standard stewardship rating (with returns on invested capital, including goodwill, averaging 24% over the past five years) as Boston Beer CEO Dave Burwick will remain at the helm of the firm. Sam Calagione is expected to join the board of directors in 2020; we think his extensive experience in the craft beer industry will be a valuable asset.