NAPA - The Duckhorn Portfolio: A Small Hangover

2023-11-21 02:15:35 ET

Summary

• Duckhorn Portfolio's shares have lost nearly half of their value since going public in 2021.
• The company reported modest growth in revenues and operating profits for 2023.
• Duckhorn made a $400 million deal to acquire Sonoma-Cutrer Vineyards, which has led to a decline in share value as the deal looks quite rich.

In the spring of 2021, I called Duckhorn Portfolio ( NAPA ) a premium play, as the company itself is a play on premium wines. The company had just gone public at the time and shares rose to the high teens coming out of the IPO gate.

Fast forwarding two and a half years in time, shares have lost nearly half of their value as premium valuations have narrowed substantially amidst the modest growth of the business.

Appeal is actually seen here, although a recent CEO resignation and a relatively larger and expensive deal limits my enthusiasm somewhat, making me keen to keep a close eye on the shares from here onwards.

A Recap To IPO Day

Duckhorn is a premium wine play, with the business building out a portfolio of poured and enjoyed wines to be served across the globe, creating the largest pure play on luxury wines within the US. The company has seen rapid growth, as it has grown operations from a $50 million revenue base in the early 2010s to over a quarter of a billion revenue base at the time of its public offering a decade later.

With operations starting in the 1970s, involving a few vineyards in Napa Valley, the company has been led by Alex Ryan who joined the company in the late 1980s. Focusing on a wide range of price points between $20 and $200 per bottle, the investment case was a play on rising spending on wine on a per capita basis in the US, as the region was lagging compared to other areas across the globe.

The company went public at $15 per share, granting the company a $1.72 billion equity valuation at the offer price, or close to a $2.0 billion valuation if we factor in net debt. The company generated $241 million in revenues in the fiscal year 2019, which ended in July of that year, with operating profits reported at $56 million.

Revenues rose 12% to $271 million in 2020, with operating margins rising to $63 million, and that is even after a $12 million impairment charge, with adjusted profits of $75 million translating into margins of 28%. Based on a $105 million adjusted EBITDA number, leverage ratios came in at 2.7 times, with earnings seen at around half a dollar per share. While momentum revealed potential higher earnings at the time, shares rose to the $19 mark on the first day of trading, pushing up valuations too much in order to get involved.

What Happened?

Shares of Duckhorn traded in the $20-$25 range for the remainder of 2021, but by the end of 2022, shares have fallen to the mid-teens. In fact, shares have come down even more, having steadily fallen to the $10 mark during 2023, trading at these levels at this point in time.

Fast forwarding to September of this year, Duckhorn posted its results for 2023, a year in which revenues grew some 8% from $372 million to $403 million. Operating profits rose from $87 million to $106 million, with net earnings of $69 million working down to earnings of $0.60 per share, modestly ahead of the pro forma number upon the IPO. Net debt of $227 million is a modest amount with EBITDA reported at $144 million, for leverage ratios around 1.6 times.

Needless to say, with $115 million shares trading at $10 and change, the market value of $1.15 billion is relatively modest, for a near $1.4 billion enterprise valuation. This valuation is down some 30% from the public offering, as the business has seen continued growth since the public offering.

The company guided for 2024 sales between $420 million and $430 million, with adjusted earnings seen at $0.68 per share, plus or minus a penny, which compares to a $0.67 per share number in 2023. The bigger news perhaps was the unexpected retirement of CEO Alex Ryan, not really taken as a positive sign by investors.

A Big Deal

By mid-November, Duckhorn made its next move as it had reached a $400 million deal to acquire Sonoma-Cutrer Vineyards, a luxury Chardonnay wineries from Brown-Forman (BF.A) . The deal tag involves a mere $50 million cash component, as 31.5 million shares will be issued around $11, granting a valuation of $350 million. The structure of the deal is quite telling, with many shares issued on the cheap.

The deal will add some $84 million in sales, for a 4.8 times sales multiple. The company reports that EBITDA margins are in line with the own business, which is disappointing as the own business trades around 3.3 times sales. This makes the deal look largely dilutive, even as the company sees synergies to the tune of five million per annum over time.

Given this high valuation, I am not surprised to see shares down about half a dollar in response to the deal, now trading at $10.20 per share. The fifty-cent decline has cut some $60 million from the valuation of the firm, an expected reaction in response to the premium multiple being paid in my view.

And Now?

The large stock component in the deal means that leverage is no concern post the deal, as some dilution in the near term will likely be seen as a function of the higher sales multiple being paid, although the company claims to see unknown earnings per share accretion to 2025 earnings, arguably the result of the expected synergies.

Right now, the company trades at a reasonable multiple of around 15 times adjusted earnings, while leverage after the deal will remain firmly in check below 2 times. The issue that I have with this deal, on top of the price and the fact that it is relatively large, is that the deal comes soon after a change at the top helmet of the firm.

All of this makes me quite cautious in fear of a hangover, although expectations have become a lot more normal here, warranting a close eye on the future developments here.

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