Description

We believe a short position in The Boston Beer Company (SAM/$460), comprised of fast growing Truly hard seltzer, Angry Orchard hard cider, Twisted Tea hard iced tea, and the struggling Sam Adams beer portfolio including recently acquired Dogfish Head, is timely given the challenged 1Q’20 financial results (reported EPS down ~20% y/y on 4/24) coupled with the YTD return of +20% with the current price at an all-time high.

The stock experienced a short-lived price decline to ~$300 during the March market correction, but has since rallied on positive sentiment in consumer staples driven by “pantry loading” – a particular benefit to Truly, which we believe will prove to be a near term headwind as consumption trends and buying patterns normalize with the re-opening of the US economy. We believe the risk/reward is attractive as the stock is priced to near perfection trading at 48x street 2020 EPS, compared to the average 16x EPS for our cohort of big beer names (TAP at 13x, BUD at 17x, STZ at 19x). Prior to withdrawing 2020 guidance, the company’s EPS estimates were a range of $10.70 to $11.70. Applying a generous 20-25x multiple to the low end would be a $215-$270 stock down 40-50% from current levels.

·      The market is fascinated with Truly’s triple digit growth story but is ignoring the current elevated level of distributor inventory, measured by weeks of inventory on hand (currently ~6 weeks compared to ~3-4 weeks at this time of the year), potentially setting SAM up for near-term shipment declines in the key summer selling months which we believe is the downside catalyst at play. According to SAM, 1Q’20 shipment volume was significantly higher than depletions volume – indicating they have filled the channel and therefore shipment volume will likely slow as distributor inventory on hand normalizes.

·      We believe Truly has been a beneficiary of the “pantry loading” behavior of consumers during the COVID-19 crisis as Truly sales are skewed towards the off-premise channel. We expect the Truly sales spike to run its course as consumer buying behavior starts to normalize in the ensuing months post COVID-19. In contrast to Truly, SAM’s beer portfolio is over-indexed to the on-premise channel, a critical part of SAM’s core beer portfolio headed into the summer months, which is currently under immense pressure given the nation wide lockdowns and social distancing efforts. According to management on the 1Q’20 call, “Sam Adams and Angry Orchard’s volume continues to decline as they are more deeply impacted by the on-premise shutdown. We are anticipating that the on-premise business is not going to just snap back and it may be a matter of a year or two before it gets anywhere near what it was at the end of February [2020]”

·      Further, the hard seltzer category has become one of the most crowded spaces in consumer staples. White Claw and Truly essentially created the category but have seen their combined share (albeit of a still growing category) fall from ~80% (split ~55% White Claw/~25% Truly) to ~60% (split ~42% White Claw/~18% Truly) based on sell-side estimates and Nielsen data.  There has been a number of splashy hard seltzer marketing campaigns backed by the biggest names in big beer. We believe elevated competition leading to increased advertising, promotional, and selling expenses in order to maintain share, should suck the air out of SAM’s earnings and multiple. Seen below are the recent launches we believe will take share from White Claw and Truly over time given consumers low brand loyalty and elevated willingness to trial new brands. Although a short-term data point, according to the two-week Nielsen data through 4/4/20, competitive intensity in hard seltzer picked up with Bud Light Seltzer gaining ~9% market share, Corona Hard Seltzer gaining ~3% market share, and Truly ceding ~7% share YTD.

Recent competitive hard seltzer launches:

o   Vizzy Hard Seltzer (Summer 2020; Molson Coors)

o   Corona Hard Seltzer (February 2020; Constellation Brands)

o   Barefoot Hard Seltzer (February 2020; Barefoot)

o   Bud Light Seltzer (January 2020; Anheuser-Busch)

o   Natural Light Hard Seltzer (August 2019; Anheuser-Busch)

·      The market is caught up in Truly’s growth and is affording the stock a very high multiple despite much less compelling trends in SAM’s unit economics. On a per barrel basis, we observe revenue, gross profit, advertising, promotional, and selling expense, and EBITDAS.

o   Although barrels shipped have increased nicely over the past few years  – with expectations of greater than 20% shipment growth in 2020 prior to recently withdrawing guidance due to uncertainty around COVID-19  – and revenue per barrel growing 1-2% per year, we believe investors should be keenly focused on SAM’s stagnant unit economics.  (Note: organic volume growth for SAM is largely due to Truly and to a lesser extent Twisted Tea. However, management offers very little granularity on performance and trends by brand. Also, barrel growth in 2020 per prior guidance included a full year of the Dogfish acquisition).

o   SAM’s gross profit per barrel has been stagnant and margin pressure has intensified recently due primarily to the lack of internal capacity to can Truly, which has forced the outsourcing to third party co-packers.

o   Given the heightened competition in the hard seltzer space, SAM has had to increase advertising, promotional, and selling expense

o   The combination of 1-2% revenue growth, flat gross profit, flat G&A, and increasing advertising, promo, and selling have led to an erosion of EBITDAS (adding back stock based comp) per barrel which in 2019 was the lowest level since the financial crisis in 2009, yet SAM’s multiple is currently the highest its been in the company’s history and meaningfully above the beverage peer group.

o   SAM also saw Adjusted EBITDAS per barrel down ~40% y/y in Q1’20 despite G&A per barrel down ~12% y/y.

·      Peeling back the onion on 2Q’19 Dogfish acquisition also reveals underwhelming Core SAM EPS growth

o   Although SAM does not provide much visibility on Dogfish, we estimate that Dogfish contributed $1.08 to SAM’s EPS in 2H’20 ($0.82 in 3Q’19 and $0.27 in 4Q’19).

o   Taking SAM’s previous 2020 EPS range of $10.70 to $11.70, and backing out 2019 annualized Dogfish EPS assuming a modest 10% growth, would assume core SAM EPS of $8.32 to $9.32. This can be compared to what SAM reported in 2019 inclusive of Dogfish of $9.16 less the $1.08 of 2H’19 Dogfish EPS contribution. We therefore estimate that organic EPS growth expectations for core SAM were 3% to 15% for 2020 – an unjustifiable growth rate for a 2x category average multiple.

·      Other factors we consider to support a short position include:

o   No share repurchases by the company since 3Q’18 despite generating $160mm of cumulative free cash flow

o   2020 is another heavy Capex year for brewing and tap room capacity to the tune of $150mm

o   Significant and frequent insider selling by Chairman/Founder Jim Koch

Catalyst

• Truly market share losses
• 2H'20 shipment growth slowdown