2023-12-26 23:24:50 ET
Summary
- Pernod Ricard is focusing on organic growth in the RTD market, leveraging its existing brand portfolio.
- The company's Q1 FY24 showed a decline in sales, with mixed regional results and diverging brand performances.
- Pernod Ricard's strategic outlook for FY24 is cautious optimism, with a focus on diversified organic net sales growth.
Introduction
Ahhh, cocktails. Who wouldn't enjoy a nice Malibu Pineapple while they kick their feet up at the beach somewhere sunny on a warm summer day? If only it wasn't December...
In today's article, we'll explore the owner of Malibu alongside many other famous liquor brands, including Absolut and Chivas Regal.
Founded in 1975 and headquartered in Paris, France, Pernod Ricard (PDRDF) has evolved into a distinguished entity in the world of wines and spirits.
It has grown from a regional player to a globally recognized name in the beverage sector, supported by strategic acquisitions and a keen understanding of consumer preferences. This rich history, coupled with a diverse range of offerings, positions Pernod Ricard as a unique case study in the evolution and adaptation within the beverage industry.
While perhaps not as enjoyable as drinking a cocktail in the sun, in today's article, we will delve into Pernod Ricard's recent financial trajectory and compare that to industry peers.
Cheers!
Strategy Update
First, let's discuss a strategic evolution I see underway at Pernod Ricard: its reprioritization of organic growth over inorganic growth.
Historically, Pernod Ricard SA diverted large sums of capital to help it expand through M&A, but this approach has decelerated recently. Instead, the company appears to be diverting a greater allocation of capital to invest in organic growth within the RTD market.
This strategy is about harnessing its existing brand portfolio for new RTD launches, including Absolut, Jameson, and Malibu, as well as its other brands.
One notable example of this strategy is the collaboration between Absolut and Coca-Cola's ( KO ) Sprite, a brand that enjoys substantial popularity among the Gen Z demographic in the United States.
This collaboration of Absolut and Sprite teaming up in the RTD space will help both of them leverage their respective brands and help them carve out a stake in this new high-growth category.
While investing in organic growth initiatives like these may be costly, it's likely cheaper than the alternative for growth.
Considering the high valuations currently commanded by many liquor brands, both public and private, investing in internal efforts may make more sense at this stage.
Examples of what I consider to be overpriced M&A deals in the space include Aviation Gin, Casamigos, and Ace of Spaces, which were valued in the hundreds of millions of dollars for smaller individual brands. Such valuations could make outright acquisitions less attractive financially.
By focusing on internal development within the RTD space, Pernod Ricard aligns with changing consumer trends favoring pre-mixed canned cocktails and so positions itself to potentially realize greater returns compared to traditional M&A.
Earnings Roundup
Let's shift our focus from Pernod Ricard's overarching strategy to the specifics of their most recent earnings report from October.
Sales Performance Analysis
Pernod Ricard's Q1 FY24 showcased a -2% organic sales dip and a -8% reported decline, marked by an unfavorable Forex impact and structural shifts within the group. Despite these challenges, the company benefited from a substantial price/mix effect of +7%, reflecting the efficacy of its pricing strategy and underlying brand robustness.
Regional Dynamics
The earnings call revealed mixed regional results. The company registered a significant -8% sales decline in both the USA and China, a reflection of challenging market conditions and inventory adjustments in the US, coupled with a challenging economic landscape in China. In contrast, India displayed modest growth, while Europe, particularly Germany, France, and Poland, showed resilience, highlighting the benefits of Pernod Ricard's geographical diversification.
Brand Performance Divergence
Diverging brand performances were evident in the earnings report. Strategic International Brands saw a 3% decline, primarily driven by weaker sales in China and the US, whereas Strategic Local Brands recorded a positive growth of +5%. This disparity underlines the varied impact of Pernod Ricard's brand portfolio across different markets.
Valuation
Looking at their valuation relative to trailing earnings, Pernod Ricard is much more reasonably priced compared to Brown-Forman ( BF.B ) and Davide Campari ( DVDCF ). Looking at the largest of the bunch, Diageo ( DEO ), based in the UK, has an even lower valuation at 18.3 times earnings, slightly less than Pernod Ricard's 19.4 times.
Both Diageo and Pernod Ricard are trading below a 20 multiple, which seems reasonable, in contrast to the sky-high multiples of 35.6 and 47.7 for Brown-Forman and Davide Campari, respectively.
However, evaluating these companies based solely on price-to-earnings ratios could be misleading, as higher ratios may be justified for businesses with better growth prospects.
This raises the question: do Brown-Forman and Davide Campari demonstrate more substantial growth potential than Pernod Ricard and Diageo historically?
Revenue Growth
Delving deeper into the revenue growth over the past five years provides insight into the companies' performance. Pernod Ricard has seen its revenue climb by 22.2%, while Diageo has slightly outpaced it with a 25.0% increase. Brown-Forman has demonstrated more robust growth at 29.0%. Most notably, Davide Campari has achieved a remarkable 53.6% growth in revenue, leading the group.
The substantial revenue increases for Brown-Forman and Davide Campari may justify their higher price-to-earnings ratios, indicating that their market valuations could be aligned with their growth history compared to Pernod Ricard and Diageo.
Returns on Invested Capital (1yr)
Regarding ROIC, data from YCharts offers a detailed perspective. Pernod Ricard recorded an ROIC of 8.0%, which has been stable or showing slight improvement over the past decade, though it did experience a significant decline during the COVID-19 pandemic.
Brown-Forman's ROIC is at 12.7%, indicating a gradual decline from its previous average returns of around 20%. In contrast, Diageo has maintained a stable or slightly improving ROIC of 14.0% over the last ten years, mirroring the trend seen in Pernod Ricard, with both companies experiencing dips during the pandemic.
Davide Campari shows an ROIC of 5.9%, but a ten-year comparison is unavailable on YCharts. Nevertheless, at 5.9%, their ROIC is the lowest among this peer group.
Risks
Pernod Ricard faces unique challenges in the RTD sector and changing consumer preferences, each posing distinct risks to its traditional business model and growth trajectory.
Market Saturation
In my view, one of the biggest risks to Pernod's investment in the RTD sector is the risk of market saturation. As more players enter this rapidly growing market, the competition intensifies, potentially leading to a crowded space and reduced profitability. The company must innovate continuously and differentiate its offerings to maintain a competitive edge in this increasingly popular segment.
This is almost exactly what happened in the hard seltzer market; what started as a niche market largely dominated by White Claw and Truly rapidly expanded, and there are now scores of different hard seltzers vying for share.
Just look at what happened to Boston Beer Co (SAM), maker of Truly; as competition heated up in 2021 and 2022, they were forced to discount their seltzer and destroy excess production, which severely hampered margins.
Luckily, I think Pernod Ricard is much better positioned to weather the competition due to one key difference: its established liquor brands.
Pernod Ricard's established liquor brands offer a significant advantage against market saturation risks in the RTD sector, differentiating it from the overcrowded hard seltzer market where many competitors lacked such brand strength and loyalty, thus losing share.
Shifting Consumer Preferences
Another risk, albeit smaller, that Pernod Ricard faces is shifting consumer preferences toward reduced alcohol consumption, influenced by a growing health and wellness trend. This is a trend we have already begun to see with Generation Z.
This change in consumer behavior could lead to a long-term decrease in demand for traditional alcoholic beverages, impacting the core business model of the company, even in its RTD line.
To mitigate this risk, Pernod Ricard can focus on developing and promoting lower ABV options in its RTD offering and explore the burgeoning market of health-focused, non-alcoholic beverages. This would allow the company to align with the evolving consumer preferences and maintain its competitive edge.
Conclusion
As Pernod Ricard expands its RTD portfolio, the growth prospects seem promising. Yet, they may not be as substantial as anticipated by many, particularly as manufacturing costs of canned beverages could potentially erode margins.
Although the company's P/E ratio suggests a valuation that is not overly expensive, it isn't distinctly undervalued either, especially in light of the slower revenue growth and modest returns on capital.
As a result, I rate Pernod Ricard a "Hold".
For further details see:
Pernod Ricard: Assessing The Impact Of RTD Market Expansion On Earnings