The market downturn of 2008 left a myriad of battered stocks in its wake. In such a difficult investment environment many investors flocked to the safe haven of so-called “recession proof” stocks. Historically, beverage stocks have been thought of as recession proof stocks.
In the case of soft drink manufacturers and distributors, the thinking is that despite hard times consumers can’t give up drinking (although they do have the option of cheaper alternatives, such as water). However, changes in consumer behavior within the soft drink segment often occur at the margin, according to Pepsi CEO, Indra Nooyi. For example, consumers may be more deliberate to stock up on soft drinks at the supermarket, where prices are lower, in order to avoid impulse purchases at convenience stores and other on-premise consumption outlets, where prices are higher. Additionally, in an economic downturn consumers become much more conscious of the products already in their pantry, using every last item before making a trip to the store to re-stock. Nevertheless, households in budget mode generally look to first cut bigger ticket items, such as vacations, furniture, and even cell phones, offering soft drink manufacturers at least some reprieve.
Along a different line, the alcoholic beverage industry is often thought of as recession proof for more somber reasons. It is commonly thought that drinking offers an outlet or escape from the stresses of tough economic times, which might include unemployment, foreclosure, precipitously declining retirement accounts, etc. The beer industry in particular is often viewed in this light, while some portions of the wine and liquor segments are considered (and priced) more as luxury goods, making them somewhat more optional in the household budget.
Unfortunately, in a severe market downturn, such as the one experienced in 2008 and continuing on into 2009, it seems no stock is immune, and beverage companies were no exception, with stocks across segments of the industry falling to multi-year low valuation multiples. All three segments (as tracked by Mercer Capital’s indices) reported median P/E valuation multiples representing double digit percentage declines from 2005 levels. Wineries and distillers saw the largest decline in P/E ratios, followed by soft drinks and then brewers. Perhaps it was best put by Peter Cressy, CEO of The Distilled Spirits Council of the United States (DISCUS), when he stated that “Contrary to popular belief, the entire beverage alcohol sector is recession-resistant, not recession-proof.”
So, is it possible to spin any of this in a positive light? In fact, there is a silver lining to plummeting valuation multiples (and these days a silver lining is about all you can hope for). No owner of a privately held business wants the value of their company to decline, especially not at the pace or to the levels experienced in the past 18 months. However, owners of wineries, beverage manufacturers, beverage distributors, distilleries, or any other company within the beverage industry could actually benefit from the current level of valuation multiples.
Over the life of a business, any number of transactions in the stock will, and eventually must, take place. For example, the gifting of shares to younger generations, contributions to charitable or family trusts, the granting of employee stock options, and others are all more efficient to the tax payer if done at lower stock valuations (i.e., lower valuation multiples). As an added bonus, any transfers done now help to ease a shareholder’s estate tax burden later. Estate planning, succession planning, and operational requirements within the distribution world are linked together making the execution of any one plan a multi-faceted exercise. As with any transaction or transfer, finding mutually agreeable and financially credible solutions can be challenging. Figure One provides a comprehensive list of conditions and circumstances for which a valuation may be required or is advisable.
Perhaps it is proverbially chaste to remind oneself that tomorrow is not a better day to do something that could better be done today. From the perspective of strategic and ownership planning, the insult on top of the injury of today’s markets and valuations will occur in the future when many look back at this time and realize they did not take advantage of a life time opportunity (at least the best so far in living memory). One could argue that it is a buyer’s market – possibly so, if your business is not well positioned and operationally optimized to receive its highest value. We would argue that the current economic climate has more likely given rise to a paradigm of more rational pricing for both buyers and sellers, one that looks more like that of other distribution platforms we have seen in our practice over many years. This new reality is a big part of the current discussion in early 2009, particularly in malt beverage distribution.
Mercer Capital has a combination of industry, valuation, and financial reporting experts that are uncommon among the pre-existing expertise in the beverage industry. For a confidential assessment of your strategic, valuation, and financial reporting needs, contact myself or Tim Lee by calling 901.685.2120.
