Big Beer, You’re Still Beautiful

Over the past 20 years, the beer industry has been consolidating – ‘bigger’ was considered to be ‘better.’ Recently, however, some of the major deals in this space have dragged down acquirers’ stock prices. Smaller brewers started to question the benefit of expanding by way of large M&A deals, as acquired mainstream brands lost momentum. Refraining from deals and remaining small also didn’t seem like a bad option, as the pricing environment in most markets stayed benign. But things are changing – and in an upcoming series of articles, we will argue that the value of scale is once again becoming evident. For smaller brewers, doing nothing is no longer an option. They will have to jump onto the M&A bandwagon in order to remain viable – but their strategy should look different than in the past, reflecting new market conditions.

Since 2000, AB InBev has grown its share of global beer volume from 3% to 26% by making use of aggressive M&A moves. Investors initially liked the strategy, and since the company’s IPO in December 2000, investments in AB InBev have strongly outperformed both the Belgian BEL 20 index and most local brewers. But more recently, major acquisitions have seemed less successful. Of the large global brewers that have been involved in big M&A deals, AB InBev and Molson Coors trade significantly lower today than on the eve of Megabrew three years ago, and Asahi has only marginally outperformed the Nikkei 225 during that period.

M&A and Growth Have Helped, but Were Not a Necessity

Smaller brewers have been more restrained when it comes to M&A than AB InBev has… and often for good reasons. In spite of the significant consolidation that has occurred, the competitive landscape in most markets has been fairly benign. When AB InBev grew in size, the company unlocked economies of scale, but mainly used the benefits to increase margins, instead of taking share from competitors. AB InBev doubled its EBITDA margin, while leaving the market share available to other brewers stable, at 75% (see Figure 1).

Another reason that many smaller brewers have refrained from M&A has been the deterioration of large, domestic mainstream brands – the cornerstones of ‘buy-and-build’ strategies in the past. Large flagship brands such as Budweiser and Skol have been losing domestic volume and market share to foreign and craft beers, creating some doubts as to the value of acquiring these brands (see Figure 2).

Given the benign competitive market and the declining market share of large mainstream brands, many breweries have been reluctant to engage in aggressive consolidation which could dilute ownership – a major concern for family-owned companies.

In a Changing Landscape, Size Is More Important Than Ever

The beer landscape is changing, and three trends – which we will all discuss in more detail in the coming months – make scale an increasingly important asset for brewers: the growing risk of price wars, the need for a more diversified portfolio of products and brands, and the need to balance exposure to mature and emerging markets.

1. Emerging risk of price wars. The brand landscape in many mature markets is fragmenting as consumers turn away from domestic mainstream beers. This, combined with a decline in absolute beer consumption, is putting pressure on capacity utilization and unit costs. The behavior of leading brewers could start to change. In mainstream beer, the risk of price wars is increasing, and cost leadership is becoming more important.

2. Need for new products/brands. For brewers facing declining sales of mainstream brands, an alternative is to focus on premium niches with volume growth and higher margins. Examples of these niches are craft and foreign beer, as well as ‘near-beer’ and ‘non-beer’ beverages. Products in these new niches can be licensed, acquired, or developed. Big brewers are able to launch the products in multiple markets and can therefore spend more resources to build up positions – as Heineken has done in alcohol free beer and AB InBev in craft. Smaller brewers can also benefit from niche products, but as the emerging competitive pressures in the US craft market are showing, niche products are sliding ever more quickly towards the mainstream segment as product life cycles shorten.

3. Need to balance exposure to mature/emerging markets. Market valuations show the attractions of volume and profit growth within the beer sector. If Budweiser APAC had listed at the top of the valuation range, it would have become the world’s second-largest beer company by market capitalization. For brewers who have to cope with domestic mainstream beer pressure, it is interesting to explore opportunities in emerging markets, but this will also bring increased volatility. Large brewers can build a geographical portfolio, thereby mitigating specific country risk. They also have various business model options to maximize profitability. AB InBev, for example, operates in China through local production for Budweiser, but with an import strategy for Corona.

Conclusion

With many mainstream beer brands in decline and the SABMiller deal now creating a drag on AB InBev’s results, it’s tempting to conclude that large-scale M&A in this space is losing its luster. However, while the context is certainly changing, we believe that scale and a broad geographic footprint are becoming more – not less – important in the global brewing scene. And while some of the major M&A deals in the brewing space may have created a drag on the acquirer’s results in the short term, moving forward, we believe that strategies that attempt to maintain the status quo will carry increasing risk moving forward.