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Morningstar | Constellation Brands Posts Strong Volume Growth in 2Q, as Beer Brands Gain Further Traction

Constellation Brands' top line gained momentum in the second quarter, with strong performance across the beer, wine, and spirits categories driving 10% net sales growth. However, comparable operating margin was roughly flat at 34%, as benefits from strong pricing were offset by increased marketing spending (nearly 9% of sales), as well as input cost pressures for transportation and grapes. We continue to view these brand-related investments as prudent, as they should reinforce the firm's brand intangible asset (which forms the basis of its narrow moat) and support a positive trajectory of growth for core brands like Corona. We plan to adjust our near-term outlook to incorporate management's revised comparable EPS guidance ($9.60-$9.75 from $9.40-$9.70 previously, and versus our $9.45 estimate) and a $639 million unrealized gain on its investment in Canopy Growth. However, we aren't expecting a significant change to our $202 fair value estimate or longer-term outlook, which incorporates revenue growth and operating margin around 35% on average over the next five years. As such, we continue to view shares, which ticked up by a mid-single-digit percentage on the earnings announcement, as fairly valued.

The beer segment (two thirds of revenue) posted more than 10% sales growth (in line with our full-year outlook), including a nearly 9% increase in shipment volume. We expect volume growth to remain robust as the firm's position in the higher end of the beer market allows it to benefit from industrywide premiumization trends (according to management, high-end beer has grown at a 6% compound rate over the past five years, versus a flat total beer market) and the Corona and Modelo brand families continue to gain share. We expect pricing within the firm's beer portfolio (we estimate average price per case grew around 1.7% during the quarter) to remain healthy, as well; our outlook calls for 1% to 2% pricing growth annually.

The wine and spirits segment also experienced strong performance, with 9% net sales growth, driven by shipment volume, outpacing our annual expectation of around 3%. However, shipment volume outpaced depletions (which were roughly flat) as the firm-built inventory at retailers before the holiday season, and on a six-month basis, the segment's 3% growth matches our outlook. We remain encouraged by the firm's strengthened focus on more premium offerings within this business, following its product rationalization and divestitures of lower-price wine brands over the last several years, as a shift toward high-end offerings has also occurred within the wine business. According to management, sales of wine priced over $11 have grown at a 13% compound rate over the past five years versus just 2% for wine below this price. In this context, depletions for this price point (above $11) grew more than 6% during the quarter.