Molson Coors: Still Going Cheap

by The Compound Investor

Beer giant Molson Coors (TAP) is still in the doldrums. The last time I covered the stock was in October after it had dipped under the $60 share price mark. The stock rallied briefly after that but December’s market carnage means that you can still get it for around $60 each as I type. This is a great deal for a stock that has lost around 45% of its value over the past couple of years.

The good news is that the stock price decline has relatively little to do with Molson Coors’ underlying business. I mean, in 2017 the business made more money than it had done in any year prior. The problem is that its valuation has collapsed. The company is guiding for free cash flow of around $1.5b this year, equivalent to around $6.90 per share. How many high quality consumer stocks can you buy for just 8.7x annual free cash flow? Are there any? It looks like a ridiculously good bargain.

There are a couple of other points to consider. Firstly, only a third of that $1.5b will be taken up by annual dividend payments (leaving the lion’s share to tackle the $9.8b net debt burden). Unlike certain other stocks, there is ample room here to fund a progressive dividend policy alongside deleveraging. Management expects to implement a dividend payout policy of around 20% of annual EBITDA from this year onwards. If my numbers are correct, this means shareholders will be looking at a minimum annual dividend of $2.30 per share. Quick math puts that at 40% higher than the current distribution and represents a hypothetical yield of 3.85%.

The second point worth stressing is that earnings are not collapsing here. Granted, the business has its issues in terms of sales. Volume of beer sold is stagnant, particularly in the core United States market, and earnings are being boosted by inorganic measures like cost cutting.

Valuation

That said, this is very cheap even for a stock without too much growth to look forward to. High quality alcohol stocks regularly trade around the 20x earnings mark because they throw off lots of cash and are quite recession resistant. Let’s say you discount that figure by 20-25%. After all, the growth outlook is lower than usual and the balance sheet is carrying a fair bit of debt. That leaves a conservative valuation of around 15-16x annual earnings. Now, analysts expect earnings to hit $5.75 per share at some point in the next four years. Applying a 15x multiple gives us a tentative share price estimate of around $85, which is some 40% higher than it trades right now.

Throw in a growing dividend stream and you are looking at that figure topping 50% in the next few years. The best part? The assumptions required when mapping out this route to double-digit annual returns are very conservative. All it takes in this case is for Molson Coors’ cash generation to hold steady (it can boost EPS quite easily via debt reduction) and for its valuation to revert to a figure that is actually still below the stock market’s long-term average. For a consumer defensive with some impressive brands it is a great deal.

Note

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