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Morningstar | While Molson Coors Faces Challenges Abroad in 1Q, We're Encouraged by Strong Domestic Pricing

While industrywide weakness continues to pose a near-term drag on domestic beer volumes, we remain cautiously optimistic about narrow-moat Molson Coors' longer-term prospects after seeing strength in both pricing and profitability on its home turf in the first quarter. In the U.S. (72% of sales), brand volume decreased nearly 4% while net sales per hectoliter increased by 3.7% on a brand volume basis. This compares favorably with our full-year outlook for a 4% decline in U.S. volumes, partly offset by a roughly 2% increase in pricing.

Profitability within the segment is also tracking in line with our expectations, with operating margin expanding 40 basis points to 16.4% (on a full-year basis, we expect segment operating margin to expand 40 basis points to 19%). We find this especially encouraging given that the firm faced around 80 basis points of gross margin contraction in the U.S. (hovering around 39% during the quarter, in line with our full-year estimate) as a result of elevated input costs (primarily transportation and packaging) and deleveraged volumes.

On a consolidated basis, top-line performance fell short of our full-year expectations, with reported sales declining 1% (0.6% increase in constant currency) and financial volumes falling more than 3%. This was largely due to weaker-than-expected performance in Europe (16% of sales) and Canada (11% of sales), where volumes fell roughly 2% and 5%, versus our full-year estimates for 2% growth and a 3% decline, respectively. Moreover, volume deleverage, commodity cost inflation, and currency headwinds compressed profitability in these regions, with underlying EBITDA margin contracting roughly 50 basis points in Europe and 280 basis points in Canada. We expect to trim our $73 fair value estimate by 3% to 4% as we trim our volume and margin expectations in these regions. Still, with shares falling 6% to 7% on the announcement, we think the name provides an attractive entry point for patient investors.

We expect the domestic beer landscape will remain challenging over the coming years and note our forecast already incorporates flat domestic sales (on top of low-single-digit volume declines) on average over the next five years. According to the Brewers Association, domestic beer volumes fell nearly 1% in 2018; excluding craft and imported beers (which hold a nearly 32% volume share in aggregate and each grew by 3%-4% over this time frame), volumes fell around 3%.