Carlsberg Stock: Executing Well in a Deteriorating Environment – Seeking Alpha

I saw Carlsberg (OTCPK:CABGY) (OTCPK:CABJF) as an opportunistic buy during my last coverage in March. At the time, shares of the Danish brewer had fallen more than 30% since the start of the year following Russia’s invasion of Ukraine – an unsurprising reaction given its important operations in the region. Moreover, its heavy European footprint in every way arguably puts it in a more vulnerable position in terms of indirect effects of the conflict as well.

Up around 17% since then in DKK terms, these stocks have rallied strongly, although they are down around 7-8% from their summer highs.

Where that currently leaves the stock is slightly less clear. In the past, I wasn’t thrilled with Carlsberg’s position among publicly traded global brewers, with the company being under-indexed in growth categories like premium and lacking an attractive footprint in emerging markets. This puts it at a disadvantage against its larger counterparts Heineken (OTCQX:HEINY) and Anheuser-Busch InBev (NYSE:BUD).

On the other hand, the company has released better numbers this year than I expected, and I also appreciate the clear financial targets that come with its current five-year growth plan, SAIL’27.

With that, my fair value estimate still points to a possible high single-digit upside here, but with the outlook in Europe worsening, that kind of discount looks slimmer than it otherwise might. Additionally, its peer AB InBev is trading at a relative discount despite a more attractive growth and profitability profile, and I consider the Belgian brewer to be the standout pick in the industry right now. Socket.

Perform well in tough conditions

2022 should have been a relatively easy year for Carlsberg, with plenty of fruit at hand as COVID restrictions were exceeded in 2021. Russia’s invasion of Ukraine has muddied the waters significantly. Regarding the former, Carlsberg follows many international companies in moving away from the country altogether. Russia was a relatively large part of the company’s business, accounting for a double-digit share of revenue and a high single-digit share of operating profit, and the impairment charge recognized in the first half tipped the company into a loss on paper. Regarding the latter, operations in Ukraine were disrupted for obvious reasons, with the Ukrainian beer market still down around 25% year-over-year in the third quarter.

The indirect effects are also important: the inflation of COGS, with the deterioration of the health of European consumers, partly due to the increase in energy prices, is another problem. Europe accounts for the bulk of revenue and operating profit, and consumers seem vulnerable there.

The above notwithstanding, Carlsberg has reported very respectable numbers so far this year. Company-wide organic beverage volume grew 6.4% year-to-date, with high prices driving about a 20% increase in revenue. Total volumes are approximately 8% ahead of the pre-COVID 2019 period. Revenues are ahead 20% on the same basis. In Asia, the company’s brightest growth path, volumes are now nearly 20% above pre-COVID levels. Full-year organic operating profit growth forecast raised to 10-12% (previously high), with better-than-expected trading helping to offset rising inflation from COGS to S2 and the roll-off of COVID-hit comps.

Perspectives

The deterioration of consumer health in Europe is my main concern in the short term. Peer Heineken had already flagged a slowdown in consumer demand in its third-quarter results, and Carlsberg will be in the same boat. So far, reported numbers for the region have been strong, with third quarter revenue in Western Europe up 5.7% year-on-year thanks to broadly similar contributions from volume and price.

The company still has price increases since the end of the quarter (as well as in the fourth quarter), but the volume could become more price sensitive in the short term. It’s worth noting that the company reported a poor September in the UK, with the country’s performance in trade being a major drag. This will be a recurring problem in the coming quarters.

With regard to the UK and you are right, we see that there are difficulties in the markets so to speak. The frequency of shopping, the frequency of visits has dropped significantly over the past two months. Kantar showed in a report that they are seeing the lowest consumer confidence they have ever measured. So it’s not good.

Heine Dalsgaard, CFO, Q3 Conference Call

Longer term, I have concerns about Carlsberg’s beverage portfolio and geographic footprint. In terms of the former, beverages in the premium category and above now account for around 25% of group revenue, although this is still below industry leader AB InBev (~33% revenue share). Given the historical and future growth prospects, it’s no surprise that expanding this category is one of the pillars of Carlsberg’s SAIL’27 growth strategy.

Nonetheless, the clear growth targets set out in SAIL’27 are welcome, including annualized organic sales growth of 3-5% and slightly higher organic operating profit growth.

Some upside down left, but better value elsewhere

Carlsberg shares are changing hands for around DKK 918 in Copenhagen at the time of writing, compared to around DKK 780 when I hedged them with a “buy” rating in March. This still leaves some room for my DCF-derived fair value estimate of DKK 965 per share, this figure being based on a mid-term CAGR of 5-6% (i.e. broadly in line with targets of SAIL’27) thereafter moderating to a terminal low single digit per annum rate.

While that may leave the stocks a bit undervalued for long-term investors, given the high uncertainty facing European consumers, that’s probably not enough to warrant much excitement. Additionally, industry leader AB InBev appears to be trading at a significant discount. The overall valuations of the two look similar (both are trading on FY22 potential EV/EBITDA of around 9x), but with AB InBev showing a clear lead on profitability and long-term growth prospects, I don’t see a compelling enough reason to look beyond the industry leader right now. Socket.

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