EUR 850.00 For Business Accounts Only

Morningstar | Heineken Misses 2Q EBIT Estimates; Shows Challenge of Competing Against Ambev's Wide Moat in Brazil. See Updated Analyst Note from 30 Jul 2018

Heineken missed even our below-consensus second-quarter estimates at the EBIT margin, blaming a negative mix effect from expansion in the lower-margin market of Brazil. The market has reacted negatively to the news, but although we believed Heineken's recent valuation had been a little frothy, we are not unduly concerned about the mix effect from Brazil because we like the market for its long-term potential. Nevertheless, the more cautious guidance highlights the challenge of competing in Brazil against Ambev, whose wide economic moat stems from its dominant distribution, brand equity, and price leadership. We are maintaining our EUR 85 fair value estimate and our narrow moat rating. After the July 30 retracement, we believe Heineken is fairly valued.

Organic net revenue growth of 5.6% was exactly in line with our forecasts, and will surely prove to be one of the highest growth rates among Heineken's European consumer staples companies this quarter. The 7% organic volume growth in the Africa, Middle East, and Eastern Europe segment was notable, given that AB InBev reported weak volume growth there as a result of soft consumer sentiment in South Africa. Although Nigeria was weak, Heineken is clearly executing well in the rest of the region. Second-quarter volume growth of 6.3% in the Americas was also solid, and Heineken said that sales in Brazil had accelerated following the acquisition of Kirin last year.

Brazil is below Heineken's group-level EBIT margin, and continued growth there has led to management revising down near-term guidance. It is short-sighted, in our view, to take this as a negative. AB InBev generates best-in-class adjusted margins of over 45% in Brazil, and we believe that Kirin Brasil was very low-margin and possibly even loss-making when Heineken acquired it, which shows the scale of the opportunity for Heineken if it can turn the business around. It will not be easy to take share outside of the business' core region in the north and northeast Brazil, given Ambev's dominance. We expect multiyear investments will be required. Capital expenditure was elevated in the first half of the year, at over 9% of sales, and we forecast it to remain at that level until the outer years of our forecast. At a more appropriate margin of safety, this maybe a bet worth making for patient investors, but we don't think that margin of safety is present at current levels.