Molson Coors: Solid Defensive Play

by The Compound Investor

It has been a while since I looked at Molson Coors (TAP), the owner of well-known beer brands like Coors Light, Miller and Carling. Like the market in general, it is down heavily over the past month or so. If my math is right then I make the drop equivalent to just under 25% – actually outperforming the 30% decline of the S&P 500 over the same timeframe. On the face of it, there’s nothing special about that. I mean a lot of blue chips have been totally hammered over the past few weeks.

The reason I bring up Molson Coors, however, is because it was already pretty cheap. Now it just looks like a steal. I mean underlying annual profit came in at around $985m last year. Call it $4.55 on a per-share basis, with that figure based on circa 216m shares outstanding at the end of last year. The current share price is around $41.30, having hit as low as $38 last week. Quick math puts the valuation at around 9x underlying annual earnings. Cheap.

COVID-19

Coronavirus. It’s pretty much the ultimate back swan event. Nobody – not one single person – could have seen this coming before January, or possibly December of last year. Like most businesses, I expect Molson Coors to take some kind of hit. I mean a portion of its revenue obviously comes from ‘on-premise’ sales of beer. In other words, the sales that take place in bars, pubs, clubs, restaurants, cafes and so on. If those kinds of places go into lockdown – or folks simply stop going – then demand for the firm’s beer obviously drops accordingly.

On the flip side, its ‘off-premise’ activity shouldn’t be impacted so much. Folks going into lockdown can still buy Coors Light and Miller in grocery stores, supermarkets and other retail outlets. On that basis, I’d expect a defensive stock like Molson to hold up relatively well. Actually I should have said defensive businesses, since stocks in general have been indiscriminately battered by all of this. Obviously I can’t say how long this thing lasts, but a few quarters seems to be general consensus right now.

Cash Generation, Debt

The good news: Molson Coors remains a money spinner. Over the past three years it has generated over $3,000m in post-dividend excess cash. Before COVID-19 took off, management expected 2020 free cash flow to clock in around the $1,100m mark, plus or minus 10%. Call it a round $1,000m for the sake of simplicity. The current quarterly dividend – $0.57 in per-share terms- takes up around $490m of that over a twelve month period. That leaves a cushion of around $510m or so in terms of excess annual cash generation.

Given the situation we find ourselves in, the above numbers are obviously subject to change. That said, they do demonstrate ample ability for the company to reduce its debt burden. I note the company has circa $1,900m due over the next two years, around $900m of which is due this year.

With $500m worth of cash on its balance sheet; a $1,500m untapped credit facility; plus over $1,000m worth of expected cumulative post-dividend free cash flow out to 2021, the debt load doesn’t strike me as a particularly big concern. Besides, 60% of the company’s debt is due after 2024, and interest payments of $285m took up less than 7% of gross profit last year.

Longer-term, I’d like to see Molson reduce debt to under 3x EBITDA. At that level, it would almost certainly get a boost to its current credit rating, which is just within the investment grade level. With 2020 EBITDA estimated to come in at around $2,100m (pre-COVID-19), that implies net debt of around $6,250m or so. It can achieve this within the next three years.

Overview

Before the chaos of the past few weeks, the biggest issues facing Molson Coors were stagnating sales and its debt load. The latter is not much of a big deal these days. At around $8,500m, net debt currently clocks in at under 4x EBITDA. As shown above, the company can easily reduce that further given its ample cash generation.

The first issue worries me a little more, but is also mitigated by the current valuation. I mean the company sold around 93m hectoliters of drink last year. That was around 4% lower than it managed in 2018. At the same time, it managed to offset that by raising its prices and/or selling a higher proportion of more expensive products. Cost reduction efforts have also helped shore up underlying profits. The overall result is stagnation, which isn’t a particularly bad outlook at 9.5x underlying earnings.

In these volatile times, I’d characterize Molson Coors as a solid choice for scaredy-cat investors. Just under 70% of its sales come from the United States, where it has around 25% share of the beer market. Though it may not rally as hard as cyclical names when all of this is done, at least you won’t have to worry about its viability in the downturn. Furthermore, you get to enjoy a 5.4% dividend yield which is comfortably covered by underlying cash profit.

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