In the constant search for value, one of the questions that inevitably have to ask yourself as an investor includes how the stock you’re looking at is likely to behave in different economic cycles. Some stocks are highly cyclic; the energy and automotive industries are good examples of market segments that respond well in certain economic phases, but really struggle in others. One of the things that a lot of investors like to do when they think the sustainability of current economic strength could be at risk is to start looking for stocks that are less cyclic in nature. Looking for companies that should do well in any economic cycle means focusing on businesses that consumers will always need to rely on no matter what the economy is doing. These are often called defensive stocks, and they often revolve around industries like utilities, healthcare, and food, among a few others.
Another pocket of the market that can be pretty interesting is Beverages. Since they fit into the Food category, it’s usually pretty easy to buy into the idea that Beverage companies should have a pretty stable business model, no matter what the economy’s current state may be. You can actually drill down a little further, too to mine a sub-segment, Alcoholic Beverages to tap into (pun intended) what is perhaps an ironic twist on a defensive strategy, since sales of alcoholic drinks have shown a historical tendency to remain very healthy – and even to increase somewhat – when the economy is in decline.
The truth is that alcoholic beverage companies generally do well in bullish economic cycles, as well as in bearish ones. That is another reason that this can be an interesting segment to pay attention to; but one of the difficulties about the industry is the relatively small market presence of U.S. companies. In the case of beer, for example, 85 percent of the beer made in the United States is owned by foreign companies. How do you play the industry? One of the notable names is Boston Beer Company (SAM). You may not recognize the company name right away, because the company doesn’t fit the description of a large-cap, blue-chip stock. It’s a good bet, however that you know about their products, especially if you are a beer drinker.
The stock is interesting, because it has been following a very strong upward trend for a little more than the past year, increasing from about $130 to its current price a little above $290 per share. That’s a 124% increase in price in a little over a year; but the stock is also down since the last week of July from a high at nearly $330 per share. That’s down about 12% in just a few weeks. The stock more recently has been showing some strength, rebounding from a short-term low at around $270 per share. Is it poised to go back up and retest its $330 highs? Maybe; the company has some interesting fundamental strengths that indicate they are very well-managed and effective at managing their business. However, there are some important value-based measurements that I think suggest the stock is actually pretty risky right now. Let’s take a look.
Fundamental and Value Profile
The Boston Beer Company, Inc. is a craft brewer in the United States. The Company is engaged in the business of producing and selling alcohol beverages primarily in the domestic market and in selected international markets. The Company operates through two segments: Boston Beer Company segment, and A&S Brewing Collaborative segment. The Boston Beer Company segment comprises of the Company’s Samuel Adams, Twisted Tea, Angry Orchard and Truly Spiked & Sparkling brands. The A&S Brewing Collaborative segment comprises of The Traveler Beer Company, Coney Island Brewing Company, Angel City Brewing Company and Concrete Beach Brewing Company. Both segments sell low alcohol beverages. The Company produces malt beverages and hard cider at the Company-owned breweries and under contract arrangements at other brewery locations. As of December 31, 2016, the Company sold its products to a network of approximately 350 wholesalers in the United States and to a network of distributors. SAM has a current market cap of about $2.5 billion.
- Earnings and Sales Growth: Over the last twelve months, earnings declined almost 16%, while revenues increased a little over 3%. The picture is better in the last quarter, with earnings growth at 260% and sales growing about 43%. Growing earnings faster than sales is hard to do, and generally not sustainable in the long-term; however it is also a positive mark of management’s ability to maximize business operations. The company’s margin profile shows that Net Income as a percentage of Revenues is pretty consistent, at about 10% for the last quarter as well as the trailing twelve months.
- Free Cash Flow: SAM’s free cash flow is modest, at $86 million. This number also has declined from about $130 million in mid-2017. Liquidity is somewhat of a question, since the company reported only about $76 million in cash and liquid assets in the last quarter.
- Debt to Equity: A has a debt/equity ratio of .0. They have carried no debt on their balance sheet since the beginning of 2017. That helps to minimize the concern about the company’s cash position as it relates to their ability to service liabilities; but it still begs the question of what ability the company has to expand its operations, and how it intends to do it.
- Dividend: SAM does not pay a dividend.
- Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value, which for SAM is $37.99 and translates to a Price/Book ratio of 7.38 at the stock’s current price. Their historical average Price/Book ratio is 7.1, suggesting suggests the stock is currently trading at a slight premium – about 7.5% – to its intrinsic value. This view is supported by the fact the stock is also trading 15% above its historical Price/Cash Flow ratio. From a strictly value-based perspective, that means the stock could be at risk to drop to a low at around $245 at minimum. That would increase the stock’s drop from its all-time high at about $330 to more than 25%.
Here’s a look at the stock’s latest technical chart.
- Current Price Action/Trends and Pivots: The red diagonal line measures the length of the stock’s longer-term upward trend, and also informs the Fibonacci trend retracement lines shown on the right side of the chart. After hitting its all-time high, the stock gapped down by more than $30 overnight to its latest low support level around $273 per share. That support is also validated by the 38.2% Fibonacci retracement line. The stock is currently showing some nice positive momentum, so there could an opportunity to see the stock keep filling that late July gap; if it does keep rallying, however, look for resistance, however to show up somewhere in the $310 to $315 price range.
- Near-term Keys: Buying volume over the last few days that the stock has been rebounding from the $273 level is significantly lower than the volume the stock has seen in the past month, which calls into question how likely the stock is to keep pushing higher. I see that as an early sign of weakness in the stock, which I believe makes the downside risk more compelling than the upside opportunity. However, a good opportunity to work the bearish side by shorting the stock or working with put options would also not have a reasonable probability of success unless the stock breaks its support as shown by the 38.2% retracement line at $259. If a drop below that level happens, the stock could easily push straight through the 50% line, all the way to the 61.8% line at around $215 per share. It is also interesting that $215 would act as the first sign of a good value play as well, since at the point the stock would be trading at a discount of roughly 20% below its historical Price/Book ratio.