Investment Thesis

Becle (

Company Description

Led by the same family for 11 generations, Becle is one of the oldest companies in Mexico. The history of the company started more than 250 years ago when it was founded in 1758. In 1795, King Carlos IV of Spain granted Jose Maria Gaudalupe de Cuervo y Montano a royal license to produce and sell mixed wine, now known as tequila. The license is believed to be the first license to sell tequila. The company first exported tequila to the United States in 1852, and it was the first distiller to bottle tequila in glass in 1880.

Today, Becle is the largest tequila producer in the world with more than 30 alcoholic brands. In 2019, tequila brands generated 61% of sales, other alcoholic beverages were 23% of sales, and non-alcoholic beverages were the remaining 16% of sales.

At 62% of sales in 2019, the United States & Canada is the company’s largest geographical market. Mexico was the next largest at 24% of sales, and the rest of the world was the remaining sales. In 2019, the company’s global tequila market share was 24.4%, down from 26.6% in 2015.

Tequila

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Becle’s tequila brands cover all price segments. Its largest tequila brand is Jose Cuervo. Jose Cuervo and its sub-brands generated 36% of the company’s total sales and 59% of tequila sales. Jose Cuervo brands’ global market share was 19.4% in 2018, more than double the next largest tequila brand. In 2019, Becle sold 7.3 million nine-liter cases of Jose Cuervo. Since 2015, Jose Cuervo products’ revenue grew at a compound annual growth rate (CAGR) of 12%, with volume and average selling price (ASP) increasing by 5.2% and 6.4% per year, respectively.

The next largest tequila brand is 1800, which generated 13% of total sales and 22% of tequila sales. 1800 is a super-premium tequila that is the world’s second-largest 100%-agave tequila brand. In 2017, 1800 was the largest brand in the super-premium category in the United States. In 2019, the company sold 1.5 million nine-liter cases of 1800 branded tequila. Since 2015, 1800 products’ revenue grew at a CAGR of 15.4%, with volume and ASP increasing by 8.8% and 6.0% per year, respectively.

Becle’s other tequila brands, including Gran Centenario and Maestro Tequilero/Dobel, generated 12% of total sales and 20% of tequila sales. Gran Centenario has several leading super-premium tequilas, including Gran Centenario Plata, the leading white 100%-agave tequila in Mexico, and Gran Centenario Reposado, the leading brand in wholesale establishments. Maestro Tequilero/Doble is the newest Tequila brand. It is an ultra-premium brand established in 2005. In 2018, it sold 304 thousand nine-liter cases and generated MXN997 million in sales. Since 2015, other tequila brands’ revenue grew at a CAGR of 19.8%, with volume and ASP increasing by 9.2% and 9.7%, respectively.

The ASP of Cuervo’s tequila portfolio is well below the average tequila price in the United States and globally. In Mexico, Cuervo’s tequila ASP is close to that of the overall market.

Becle’s tequila business is fully integrated, from agave farming to distribution. For a drink to be considered tequila, it needs to come from agave grown in certain territories in Mexico (all the state of Jalisco, certain municipalities of the states of Guanajuato, Nayarit, and Michoacán and certain municipalities of the state of Tamaulipas). Becle is the largest producer of blue agave in Mexico. It also maintains relationships with independent agave producers.

The company has two distilleries in Mexico. La Rojeña, Mexico’s oldest distillery is dedicated to the production of 100% agave tequila. Its current annual capacity is 17.6 million liters. The company’s other distillery, Los Camichines, is the largest distillery in Mexico with an annual capacity of 47 million liters of tequila. In 2019, Becle sold 97.8 million liters of tequila, meaning roughly a third of production was outsourced. The company’s bottling plant has six automatic bottling lines with a total annual capacity of 14 million nine-liter cases. In 2019, Becle sold 10.9 million nine-liter cases of tequila. In 2017, 92% of global sales were through the company’s direct distribution, up from 25% in 2007.

According to IWSR, in 2018, the two largest tequila markets are the United States (67% of the global market) and Mexico (15%). Based on Becle’s market share in 2019, the global tequila market reached MXN74.4 billion in sales on 37.0 million in nine-liter cases of volume. Since 2015, global tequila volume grew at a CAGR of 9.0% and the global tequila market size grew by 22.7% per year in MXN terms.

Other Alcoholic Beverages

In 2009, Becle entered the rum category with the development of the Kraken brand. Today, Kraken is the third-largest super-premium rum in the world. In 2019, Kraken-branded products sold 828 thousand nine-liter cases, generating MXN1.3 billion in sales equal to 4.4% of total sales. From 2015 to 2019, revenue from Kraken-branded products grew at an 18.0% CAGR, with volume and ASP increasing by 10.6% and 6.7%, respectively.

In February 2015, Becle acquired 100% of Bushmills’ shares for MXN10.67 billion (USD718.7 million). Bushmills is the third-largest whiskey brand in the world and the third-largest in the United States. With 2019 sales of MXN1.3 billion, the purchase price was 8 times sales. It distributes 97% of its volume in Europe and the United States. The Bushmills acquisition came with a distillery and bottling plant in Northern Ireland. In 2019, Bushmills-branded products sold 815 thousand nine-liter cases, accounting for 4.5% of total sales. From 2015 to 2019, Bushmills’ revenue grew at a CAGR of 11.6%, with volume and ASP increasing by 8.9% and 2.4% annually.

In February 2018, Becle acquired Pendleton Whisky brand assets from Hood River Distillers, Inc. for MXN4 billion (USD212.8 million). Pendleton Whisky was launched in 2003 and has since increased its annual sales volume to more than 250,000 nine-liter equivalent cases. In addition to the main Pendleton Whisky presentation, the acquisition included the Pendleton Midnight, Pendleton 1910, and Pendleton Directors’ Reserve presentations. Other alcoholic beverages had an ASP of MXN1,520 per nine-liter case. Applying this ASP to Pendelton Whisky’s 250,000 nine-liter cases in sale volume leads to annual revenue of MXN380 million, which puts the acquisition price at 10.5 times revenue.

Other alcoholic beverages include Three Olives, Hangar 1, and Oso Negro brands in the vodka segment and the Boodles brand in the gin segment. Becle also distributes third-party brands within Mexico.

In 2019, Becle sold 2.8 million other alcoholic beverages, which generated MXN4.1 billion in sales equal to 13.9% of total sales. From 2015 to 2019, sales of other alcoholic beverages grew at a CAGR of 18.4%, with volume and ASP increasing at an average annual rate of 6.8% and 10.8%, respectively.

Non-Alcoholic Beverages

In addition to alcoholic beverages, Becle sells many non-alcoholic beverages that complement its alcoholic brands. Within the ready-to-drink category, its portfolio includes Jose Cuervo Authentic Margarita, Jose Cuervo Especial Paloma, Kraken Cola, and Jose Cuervo Golden Margaritas. In 2019, the ready-to-drink category generated MXN2.5 billion in sales, equal to 8.4% of total sales. From 2015 to 2019, ready-to-drink revenues grew at a CAGR of 13.6%, with volume and ASP increasing at an average annual rate of 6.5% and 6.7%, respectively.

Other non-alcoholic beverages include Sangrita Viuda de Sánchez, b:oost, and the Jose Cuervo Margarita Mix. In 2019, the other non-alcoholic beverages segment produced 2.2 billion in revenue equal to 7.6% of sales. From 2015 to 2019, other non-alcoholic beverages revenue declined at a CAGR of 3.4%, with volume and ASP decreasing at an average annual rate of 1.1% and 2.3%, respectively.

United States & Canada

Becle reports its business by geography. Its three business segments are the United States & Canada, Mexico, and the rest of the world. The United States & Canada is the largest business segment at 62% of total sales. The company started providing total assets and liabilities for the year 2017. Capital efficiency is skewed due to the production of the largest-selling product is in Mexico, meaning capital efficiency will be much higher in the United States & Canada. For this reason, only income statement items are analyzed in each geographical segment.

According to IWSR figures, the United States represents the third-largest market of the world of distilled alcoholic beverages in terms of sales volume and the second-largest market in terms of value, after China. In 2017, the market of distilled alcoholic beverages in the United States reached 226 million nine-liter cases and approximately USD49 billion in market value, representing 7.2% and 15.4% of the world consumption of distilled alcoholic beverages in terms of sales and value and volume, respectively. With the United States, Becle has a 19.7% market share within the tequila segment.

Vodka represents the largest category of distilled alcoholic beverages in the United States, representing approximately 33.5% by consumption sales volume in 2016, followed by US whiskey (13.4%) and Canadian whiskey (10.0%). Tequila represents currently 7.8% of the total sales volume. Tequila and Irish whiskey experienced some of the highest growth rates in the market by sales volume between 2012 and 2017, with a CAGR of 6.0% and 14.4%, respectively.

The market of distilled alcoholic beverages in the United States is relatively fragmented. The three largest companies of distilled alcoholic beverages represented approximately 36.6% of the total sales volume in 2017. Within the United States, Becle had a 19.7% share of the tequila market, down from 22.8% in 2015.

Since 2015, the United States & Canada’s sales grew at an 11.8% CAGR, with volume and ASP increasing annually by 3.6% and 7.9%, respectively.

In October 2016, Becle shareholders agreed to merge with Sunrise Holding, whose main subsidiary was Proximo. The Beckmann family (majority shareholders of Becle) founded Proximo to produce, import, and distribute distilled alcoholic beverages. Proximo is the tenth-largest distributor of distilled alcoholic beverages in the United States. Proximo also operates the two distilleries and three bottling plants in the United States. One distillery in Colorado produces whiskey and the other in California produces vodka. The three bottling plants are in Colorado, California, and Indiana.

Since the acquisition in 2016, growth slowed. From 2016 to 2019, sales grew at a CAGR of 3.8%. Over that period, volume did not grow, while ASP grew by 3.8% annually. Gross profit grew by 0.5% annually and operating profit declined by 3.1% per year.

Given the influence of the US Dollar-Mexican Peso exchange rate on results reported in Mexican pesos, it is best to convert results to the US dollar to get a better understanding of how the business performed without any influence from exchange rates. From 2015 to 2019, the average USDMXN exchange rate declined by 4.9% per year.

In USD terms, from 2015 to 2019, sales grew at a CAGR of 6.5%, with volume and ASP increasing at an average annual rate of 3.6% and 2.8%, respectively. Gross profit and operating grew at CAGRs of 3.7% and 0.8%, respectively. The Promos acquisition boosted 2016 growth figures. After the acquisition, growth slowed. From 2016 to 2019, sales grew at a CAGR of 2.7%, driven entirely by ASP growth. Gross profit and operating profit both declined from 2016 to 2019 at average annual rates of 0.6% and 4.2%, respectively.

The gross margin of the United States & Canada business averaged 62.4% with a high of 67.1% in 2017 and a low of 56.7% in 2019. Operating margin averaged 36.2% with a high of 41.9% in 2017 and a low of 30.0% in 2019. Gross margin drove operating margin fluctuations, as operating expenses as a percentage of sales were relatively stable.

Mexico

Mexico is the next largest at 24% of total sales. Within Mexico, Becle’s 2019 tequila market share was 40.1%, up from 37.8% in 2015. In addition to its brands, it is one of the largest distributors of distilled alcoholic beverages. The distilled alcoholic beverage market in Mexico reached 33 million nine-liter cases, or approximately USD3,426 million in sales in 2017. Tequila is the largest individual category of distilled alcoholic beverages, representing approximately 33.1% of the sales value in 2017. Scotch whiskey is the second largest, with 28.1% of sales value. From 2012 to 2017, the Tequila market grew at a CAGR of 7.5%. In Mexico, it had a 40.1% share, up from 37.8% in 2015.

Since 2015, sales in Mexico grew at a CAGR of 13.2%, with volume and ASP increasing at an average annual rate of 6.6% and 6.1%, respectively. Gross profit and operating profit growth were well below sales growth. Gross profit grew by 4.7% annually and operating profit grew at a CAGR of 3.2%.

Over the five years, Mexico’s gross margin averaged 44.6%, but declined from a high of 52.4% in 2015 to a low of 38.4% in 2019. The gross margin in Mexico is much lower than the gross margin in the United States & Canada, primarily due to a much lower ASP.

Rest of the World

Rest of the World (ROW) makes up the remaining 13% of sales. Becle’s products are sold in 85 countries. In 2019, the company’s tequila volume share in the ROW was 31.9%, down from 32.1% in 2015.

Over the past four years, sales grew at a CAGR of 15.7%, with volume and ASP increasing at an average annual rate of 9.1% and 6.0%, respectively. Gross profit and operating profit both grew at a CAGR of 13.6%.

ROW’s gross margin averaged 63% over the last five years, while operating margin averaged 33.8%. ROW’s gross margin is at a similar level to the United States and well above that of Mexico. Again, the driver of higher margins was a similar ASP to the United States. The table below illustrates the income statement items on a per nine-liter case basis and as a percentage of sales for 2019.

ROW has the highest ASP. The USA & Canada’s ASP is not far behind. Mexico’s ASP is 67% of the USA’s. All segments have similar COGS, meaning ASP is the main determinant of difference in gross profit and gross margin. Becle’s marketing spend within Mexico is much lower than that outside of Mexico. USA and ROW spend a similar amount on marketing, but Mexico’s is 43% of USA’s. All have similar distribution expenses.

Shareholder Structure

Becle went public in February 2017. At the end of 2019, CEO Juan Domingo Beckmann Legorreta and members of his immediate family owned 86.49% of the shares outstanding. Public investors held the remaining 13.51% of shares outstanding.

Miscellaneous

At the end of 2019, Becle’s net debt-to-EBITDA was 0.36 times. Since going public in 2017, the company’s average payout ratio is 50%.

Valuation

Becle’s fair value per share is determined under three scenarios using a residual income model. The residual income model has a five-year forecast period, followed by a four-year fade period to a terminal value in the tenth year. The static assumptions in all three scenarios are the discount rate at 10%, the terminal growth rate of 2.5%, the tax rate at 25%, and capital efficiency equal to 2019’s capital efficiency (0.69 times).

Capital efficiency requires further discussion. Despite several acquisitions and steady growth over the past four years, Becle’s capital efficiency, as indicated by invested capital turnover, has not changed much. Despite little change, invested capital turnover had a high of 0.75 times in 2016 and 2017 and a low of 0.69 in 2015, 2018, and 2019. Due to acquisitions, intangibles & goodwill (47% of invested capital) are the largest part of invested capital, followed by working capital (37% of invested capital) and fixed capital (16% of invested capital). The historical average could be used with intangible & goodwill and fixed capital, as there were no discernible trends. Working capital turnover has declined every year as working capital grew as a percentage of invested capital. With the decrease in working capital turnover, the 2019 capital efficiency is used rather than the average capital efficiency.

Under all scenarios, the fair value per share is adjusted down by five percent to reflect the current pandemic. The 5% adjustment is equal to eliminating all cash flow in 2020 and then resuming the preceding trends in 2021.

The two assumptions that change under each scenario are sales growth and operating margin. Over the past four years, sales grew by 12.6%, fuelled by both organic and inorganic growth. Through 2025, the global distilled alcoholic beverage market is expected to grow at a CAGR of 3.3%. The global tequila market is expected to grow faster at a CAGR of 4.4% through 2024. With these projections and the company’s historical growth, the bear case assumes the company continues to grow at 5% per year during the forecast period, just above the rate of growth of the global tequila market. The bear case assumes no growth from acquisitions. The base case assumes sales growth of 10% per year more than double the growth of the global tequila market. The base case assumes market share gains and additional acquisitions. The bull case assumes the annual growth rate is 15%. All scenarios fade to a terminal growth rate of 2.5% in the tenth year. The growth assumptions may be a bit aggressive, and the base case should assume growth similar to market growth.

Over the past five years, Becle’s operating margin averaged 22.1%, with a high of 26.7% in 2017 and a low of 17.7% in 2019. Under the bear case, the company’s operating margin remains at 17.5% near the lows into perpetuity. The base case’s operating margin of 22.5% is slightly above the historical average, while the bull case’s operating margin is 27.5%, just above the peak operating margin.

The 2025 fair value per share ranges from MXN16.77 under the bear case to MXN46.02 in the bull case. The base case’s 2025 fair value per share in MXN28.03, which is 33% below the closing share price of MXN41.82 on July 10, 2020.

Risks

The hospitality industry, including the bars and restaurant industry, is one of the most significantly impacted ones. According to Statista, 79% of distilled alcoholic beverages sales are off-premise. 21% of sales from on-premise will be severely impacted by the pandemic. Off-premise sales will probably see a significant boost. The extent of the social distancing measures and impact on bars and restaurants is still uncertain. To compensate for the uncertainty, the fair value per share under all scenarios is adjusted down by 5%, which is equal to zero cash flow in 2020 followed by a resumption of previous trends in 2021.

Becle faces macroeconomic risks. In June 2020, the IMF updated its real GDP forecasts for 2020 and 2021. It expects the US’s real GDP to decline by 8.0% in 2020 before growing by 4.5% in 2021. It expects Mexico’s real GDP to decline by 10.5% in 2020 before increasing by 3.3% in 2021. A weak economic environment will lead to weak demand for its product.

The company also faces foreign exchange risk. Becle’s largest market is the United States, yet it reports in Mexican peso. Any depreciation of the Mexican peso relative to the US dollar improves the growth rates of the United States business.

The industry is extremely competitive with many producers. The company has a large but declining market share in tequila. Over the last four years, its market share declined by 2.2%. The competition is not only from large multinational like Diageo (DEO), but also from small craft players. In 2017, craft distillers had a 3.8% market share in the US, up from 3.0% in 2016.

Becle expects to grow organically and inorganically. There is a risk the company will overpay for acquisitions. Becle paid 8 times sales for Bushmills and 10.5 times sales for Pendleton, which seem like expensive prices. At the end of 2019, intangibles & goodwill were 29% of total assets. Over the last five years, Becle’s ROIC excluding intangibles and goodwill averaged 27%. With intangibles & goodwill, the five-year average ROIC was 12%. Under the base case, ROIC with intangibles & goodwill continues at 12%.

Becle’s EV/2019 EBITDA is now 25.6 times. The market is growing at mid-single digits, though the company is losing market share. Becle also has a poor history of capital allocation. Under the most optimistic scenario, there is only 2% upside to the company’s 2025 fair value per share. Unfortunately, the market is placing overvaluing Becle’s growth prospects.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.