Anheuser-Busch InBev: Superior Market Position, Cash Flow King (NYSE:BUD)

Investment Thesis

Finally slowing down its slew of acquisitions, AB InBev (BUD) has established a monstrously large global brand. Despite a few speedbumps along the way, AB InBev now stands poised to take advantage of above-average organic growth opportunities via its position in emerging markets, aided by its impressive use of leverage and free cash flow. Given AB InBev’s current valuation, which I find to be in the ballpark of fair, I find AB InBev stock to be worth a BUY.

Developing Markets

Last year, AB InBev’s growth in international markets was solid, to say the least. Ignoring currency headwinds, the company displayed solid growth in volumes.

Despite volume losses in North America, performance was very solid worldwide. Specifically, AB InBev capitalized on key markets — in Brazil, volume grew nearly 6% aided by a 3.5% increase in beer volumes. In Europe, volume grew by low-single digits, supplemented by the premiumization of AB InBev’s European portfolio (55% of revenue, now). South Africa remains a key market, with momentum carrying AB InBev to secure near-double-digit volume increases in that market. Not only has AB InBev been able to expand its market share in these markets, but its BEES e-commerce platform has been expanding at high rates internationally, which should assist AB InBev’s SMB customers with logistics and accelerate its digital transformation while strengthening client relationships.

Taking a closer look at some of the more relevant markets for AB InBev, it’s clear to see that top-line growth potential is immense despite short-term headwinds. Revenue growth in major regions is as follows:

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First, despite a net negative volume change, AB InBev maintained positive revenue growth in North America, which I find promising if volume trends reverse. Second, AB InBev has shown an impressive capability to grow revenue (consolidated, growth was 11.2%) through premiumization and other initiatives that I’ll get to later. It is also salient to note that revenue per hectoliter was up 8.6%. So, clearly, growth in emerging markets is going to be a major factor in AB InBev’s future prospects.

I’ll address the negatives of recent times here:

North America has been a tough market for the industry due to an elevated cost environment, and AB InBev has been making strides to adapt. By focusing on premiumization and the expansion of Beyond Beer & above-core portfolios, revenue growth and stable EBITDA were possible despite soft volumes industry-wide.

Also, the declines in gross profit are largely the result of increased COS from currency & commodity headwinds, which shouldn’t last into the long term. SG&A expenses increased due to distribution costs, but I anticipate that the higher-margin premium products (increasingly relevant within the business) will help to balance these effects.

Morningstar has called AB InBev’s position in some markets “monopolylike”, and they are not without reason. In many key emerging markets, such as Brazil, Argentina, and South Africa, AB InBev has leading market share (which it also has globally). However, as seen by the revenue & volume growth from Latin America and EMEA, its leading market position allows it to benefit the most from the organic growth opportunities present globally. I anticipate this advantage of scale to compound. Eventually, this may contribute to a narrow moat in global markets enabled by superior ROIC and cash flow.

Cash Generation

Anheuser-Busch’s impressive level of cash flow enables it to have a lot of freedom with its capital allocation.

AB InBev has identified three primary avenues for capital allocation (outside of organic growth): deleveraging, selective M&A, and shareholder returns. Of course, growth remains the company’s primary directive — marketing & CapEx expenses have expanded to ~$7 billion per year and ~$5 billion per year, respectively. However, due to the company’s impressive ability to generate cash, as evidenced by its 2022 showing of $8.5 billion in FCF, AB InBev maintains the ability to use its cash for other purposes.

I’ll go through each of AB InBev’s directives in sequence: first up, deleveraging.

AB InBev wiped ~$9 billion in debt off its balance sheet in 2022, delevering the company down to a 3.51 debt-to-EBITDA ratio (down from ~4.6 at year-end 2021). This has also led to a dividend increase, up to .75 Euros per share, which, while not exactly breaking any records, is a benefit that should be noted. This implies that as the company deleverages itself after a long period of acquisitiveness (Grupo Modelo, Oriental Brewery, and SABMiller, for example), the company may devote excess cash towards buyback initiatives or improve the dividend to a more respectable level.

It is also worth noting that AB InBev’s debt schedule is very loose, and the company has plenty of time to deleverage and refinance.

Next, selective M&A. AB InBev has had very lucrative M&A opportunities in the past, such as those mentioned above. Their strategy generally consists of buying brands that have a runway for growth, expanding their distribution, and then slashing costs. This strategy has been widely successful, though admittedly the SABMiller deal has taken much longer to pay off than most. While M&A hasn’t been at the top of management’s priority list due to the company’s debt position, it is entirely possible that the company may aggressively pursue inorganic growth after its position is less highly leveraged. Given AB InBev’s successful track record here, this would be beneficial for obvious reasons — it would help further increase the company’s already enormous market position, broaden its offerings across core, above-core, and beyond beer portfolios, and provide potential cost savings via the opportunity for shared resources & economies of scale.

Third, shareholder returns. AB InBev has not been the most historically generous company, but the recent dividend increase and deleveraging efforts present the opportunity for that to change. While I don’t anticipate AB InBev’s dividend having an extremely high yield, I believe that their strong cash flow offers the opportunity for it to crack the 1-2% range. Furthermore, despite a historical lack of stock buybacks, after the company has deleveraged (provided that there aren’t fruitful M&A opportunities), I believe that it is not outside of the realm of possibility for the company to buy back stock. They have done so in the past, in 2015, and I believe that should the company ever find itself in the company of too much cash, buybacks are on the table (they did mention buybacks in their latest 10k as a material cash requirement in the past, which implies that it may happen again in the future).

Last, I’d just like to point out that AB InBev has run with net negative working capital and has cash flow conversion greater than 100% of net profit. These are feats of cash generation that are rare to see.

Asides

A few things I haven’t mentioned so far.

Digital transformation has also been a strong point for AB InBev recently, with its weighted average NPS improving to 56 as of the end of 2022. In Brazil alone, since 2019, the customer base has expanded by over 250,000 and better logistical understanding of consumers — all enabled by AB InBev’s digital offerings: BEES, Zé Delivery, TaDa, and PerfectDraft, most notably. I anticipate this to be a minor tailwind in the near and long term, as in today’s world, data is king — the more info AB InBev has on its consumers, the more effectively it can optimize its operations.

AB InBev also has a lot of bargaining power with its creditors — according to Morningstar, it has managed to delay payment to its trade creditors more than 20% longer than its closest rival, Heineken. Its interest expenses are also not enormous given its debt position, and the company has announced that it plans to refinance much of its debt which should help with its deleveraging.

Much of the apparent slowdown in AB InBev’s business can be attributed to short-term issues in the Chinese market, mostly impacted by COVID restrictions (revenue decline of 4.2%, EBITDA decline of 10.8% in that market). Provided that tensions with China do not escalate significantly, these headwinds should clear up in the next year or two, expanding AB InBev’s presence in the APAC markets.

ROIC

AB InBev’s ROIC of 6.52% is better than all of its major competitors, with the exception of Heineken — although this is to be expected, given Heineken’s limited global scope and more premium focus.

As mentioned earlier, AB InBev has leveraged itself up to pursue (largely inorganic) growth opportunities through M&A and other investments. This high level of ROIC implies that it is making good use of its debt. Furthermore, much of AB InBev’s bonds ($3 billion worth maturing through 2025) are fixed rate, which insulates them from current macro volatility.

The real key here is that AB InBev benefits enormously from economies of scale. Aside from the aforementioned credit advantage, the company also enjoys the traditional advantages of economies of scale: cost advantages, superior distribution, and the lion’s share of international market growth. I find that this also contributes to a narrow moat for the business, which should protect its earnings for the foreseeable future.

Valuation

I’ll quickly mention valuation. I find AB InBev’s pricing to be fairly reasonable when compared to the sector at large.

I find that a lot of the metrics in the red are somewhat irrelevant, especially since the company’s price/cash flow hovers around 8.96, which is very impressive for the industry. Overall, I don’t find there to be any warning signs here.

Additionally, FactSet analyst target prices place a target price at about 13% above current levels and a DCF valuation conducted by SimplyWallSt puts AB InBev at trading ~4% below value.

Putting all these factors together, alongside the relatively low risk I find AB InBev to have, I find that AB InBev is trading at a price that is at least fair. I’m sure we’ve all heard the Buffett quote “It is better to buy a great business at a fair price than a fair business at a great price”, and I find AB InBev to be an excellent example of that.

Risks and Other Considerations

As with all positions, AB InBev is not without risks. Several worrying headwinds have arisen in the past, such as the suffering of Budweiser and Bud Light at the hands of craft and imported beers and the competitive nature of the industry in developing markets. If, for whatever reason, AB InBev is unable to maintain its leading position in key markets like Brazil, Argentina, South Africa, etc., then the business’ growth prospects become much, much worse. Furthermore, the premiumization of AB InBev’s portfolio is somewhat of a turn away from its core competencies of the Budweiser-esque beer the company is famous for. However, I find these risks to be very manageable, and believe that management’s handling of the company’s finances and avenues for growth has been quite effective.

The Bottom Line

Given the fact that AB InBev is currently trading at a price below or near fair, as well as its impressive ability to generate cash, leading position in emerging markets, and deft use of leverage warrant a BUY. I find that these factors contribute to a narrow moat predicated upon economies of scale that should enable AB InBev to outperform the index in the near future.