CABGY - Carlsberg: Spotlight Is On Asia But Valuation Still High

2023-08-30 05:42:48 ET

Summary

• Carlsberg's financials show organic growth in sales and volume, with strong performance in Western Europe and Asia.
• The company's focus on Asia presents potential for growth, particularly in China and India.
• The current valuation of Carlsberg is fair, but a more favorable entry point for investment would be below 10x forward EBITDA.

Summary

Readers may find my previous coverage via this link . My previous rating was a hold, as I believed Carlsberg's ( CABGY ) valuation of 10x NTM EBITDA did not provide enough margin of safety given the near- to mid-term uncertain growth outlook. I am reiterating my hold rating for CABGY as I believe the current valuation is already reflecting the fair value of the business. However, at the right valuation (less than 10x forward EBITDA), I would be interested in buying the stock, as I am positive about Asia's performance.

Financials / Valuation

CABGY reported total organic volume growth of 0.8% to 64.8mhl, DKK 37.8 billion of sales (11.2% organic growth), DKK 6.27 billion in EBIT (16.6% margin), and lastly DKK34.7 EPS. Sales in Western Europe grew organically by 9.2%, despite the region's difficult consumer environment and bad weather at the start of Q2. Pricing and product combination played a significant role (making up 12%) as major influencers. This was a result of a favorable shift in distribution channels during the first quarter compared to the previous year's limitations on on-trade activities. Price hikes and a favorable distribution of products among different countries positively impacted the adjusted EBIT margin (13.9%). As for Asia, China, Laos, Vietnam, and India all contributed significantly to Asia's 11.7% organic growth in sales. Increases in both price and volume contributed to growth , but an increase in sales and marketing expenditures, especially in Vietnam, led to a decline of 140bps in adj EBIT margin year over year. Finally, in Central and Eastern Europe, organic sales growth was 16.3%, driven by price and mix as well as bad weather in 2Q and high inflation reducing consumer off-take. Margin, however, dropped 260bps despite cost control and strong price increases.

Based on my view of the business, CABGY should be able to grow revenue in the mid-single digits, similar to how it has done in the past, but with more focus in Asia. While I do not expect much variability in margins, the upside potential here is better than expected in driving premiumization across Europe. My same concern regarding valuation still exists, where the current 11x forward EBITDA multiple seems high relative to CABGY history. Considering that growth and margins are not going to inflect higher than in the past, I don’t see a strong catalyst for multiples to extend further from here (which limits the upside potential). At the current multiple, CABGY is fairly valued, in my opinion.

Comments

Headline results were strong across all regions, but I'd single out Asia as the bright spot because it's such a sizable market with so much potential for growth under the new CEO. Since CABGY only accounts for 8% of the China beer market ( 1H23 earnings call ), there is considerable room for growth which accounts for about a quarter of total sales. The 1H23 performance also continue to support the notion that CABGY is growing in China. The company's premium and local mainstream brands in China helped fuel 7% organic sales growth in 1H23. It's noteworthy that CABGY has increased its market share over time, adding 15 new cities to its total of 91 in just this year alone. Despite a possible slowdown in macroeconomic conditions, management is aiming to reach 10% share in the coming years (1H23 earnings call). To further capitalize on growth opportunities, I believe management will look beyond China and into India. Losses in market share are being caused by India's capacity issues. To put that into perspective, in 1H23 volumes grew by MSD thanks to an expansion of the Indian beer market and favorable climatic conditions that encouraged more people to travel there. Nonetheless, Carlsberg's Q2 capacity constraints led to lost market share. Now, management is counting on capital expenditures for brewery expansions to help it catch up in 2H23 or 1H24. I anticipate the CAPEX investments will aid CABGY in regaining market share given that this is a supply constraint rather than a demand one. This is entirely possible when accounting for management's comments that it is still gaining market share in states where it is operating at full capacity.

With regards to India, yes, it's a bit unfortunate that we have some operational issues over the last half year. We are catching up hopefully in the second half, if not in the first half of next year. We solved that by investing in the extension of the brewery, but also in some toll production, that's all part of our planned CapEx for the remainder of this year. So it will not influence the triggers.

The good thing is that we see still where we have the full capacity that we gain market share in these states. But indeed, the operational pressure at this moment of time has led overall to a slight decline of our market share. Source: 2Q23 earnings

Conclusion

I continue to suggest a hold rating for CABGY. Despite the positive strides in various regions, particularly in Asia, the historical valuation multiples and the growth outlook don't strongly support further expansion of multiples. I would wait for a more favorable entry point, ideally below 10x forward EBITDA, before considering to invest.

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