Constellation Brands (STZ) cut its full-year profit outlook Wednesday, citing a drag from its nearly $4 billion investment in Canadian pot producer Canopy Growth (CGC). Constellation Brands stock crashed to a near-two-year low.
On Wednesday, the beer and wine giant tried to shore up analysts’ faith as concerns grow over that investment. During its earnings call to discuss fiscal third-quarter earnings, Constellation reiterated its confidence in Canopy Growth’s ability to hit sales targets and deliver strong margins.
But Constellation’s woes extended to its core alcohol business as well. While overall fiscal third-quarter earnings topped estimates, management said it was exploring “strategic alternatives” to improve its wine business, which has been hit by weakness in cheaper offerings.
And some analysts expressed disappointment in Constellation’s beer business, which includes Corona and Modelo, despite being an outlier as spirits and other alternatives chew into beer demand more broadly.
Constellation Brands Earnings, Outlook
Constellation Brands earnings per share jumped 18% to $2.37. Net sales rose 9% to $1.97 billion. Those results beat expectations for earnings per share of $2.04 on revenue of $1.91 billion.
However, Constellation said it expected full-year earnings per share of $9.20-$9.30. That forecast was below consensus views for $9.39. It was also down from a prior view of $9.60-$9.75. The outlook “includes additional interest expense for Canopy financing.” But the forecast excluded Canopy Growth’s fourth-quarter earnings.
The company recognized a $164 million decrease in the fair value of its Canopy Growth investments in Q3. In fiscal Q2, Constellation booked a $639 million unrealized gain on its initial Canopy investment. And in fiscal Q1, it recognized a $258 million unrealized gain.
The change in fortunes on Constellation’s Canopy stake coincides with a steep drop in the pot stock that began in mid-October.
Canadian marijuana stocks have swooned since recreational legalization began there in October. Weed shortages there seem unlikely to end this year. In the process, doubts have intensified over Constellation’s investment in Canopy as the cannabis company loses money amid a global expansion drive.
Constellation Brands Stock
Constellation Brands stock sank 12% to 150.94 on the stock market today, the lowest since February 2017. Canopy Growth jumped 13%.
Late Tuesday, CNBC’s Jim Cramer expressed bullishness on Canopy, saying: “Here’s the truth about Tilray: it doesn’t have the capital, the money, that Canopy Growth has. So I say [sell] to Tilray and [buy] to Canopy.”
Among other marijuana stocks, Cronos Group (CRON) rose 5%, Tilray (TLRY) fell 4.3%, and Aphria (APHA) added 7.1%. Aurora Cannabis (ACB), which gave sales guidance Tuesday that fell short of some views, gained 8.35%.
Constellation Brands said it planned to return $4.5 billion to shareholders via dividends and share repurchases through fiscal year 2022. CEO Rob Sands said he and his brother Richard had bought 1 million shares of the company.
Rob Sands plans to step down from the CEO post on March 1. He will assume the role of executive chairman.
Constellation’s Canopy Growth Investment
Constellation Brands has expressed hopes that cannabis beverages from Canopy might fit changing consumer tastes and fill the void left by shrinking beer sales.
In October, during the last Constellation Brands earnings call, management said it was “extremely bullish, if not more bullish” on Canopy since collaborating with the cannabis company. Constellation at that time said it had recognized an “unrealized gain” of $1.3 billion since its 2017 investment in Canopy. On Wednesday, the company said that gain had shrunk to $1.2 billion.
Still, Constellation on Wednesday said it still expected its investment to add to profit by fiscal year 2021. And the company said it still believed that Canopy could hit its run-rate sales target of 1 billion Canadian dollars in the next 18 months.
President Bill Newlands, who will soon replace Rob Sands as CEO, said during the call that he believed that cannabis represented one of the most global growth opportunities over the next decade and “frankly, our lifetime.”
Canopy Growth said Tuesday it is preparing to enter the U.S. hemp market after the 2018 farm bill legalized industrial hemp. The company last year acquired ebbu, a company that does research on hemp. Canopy is already a large producer of cannabidiol, or CBD. It also produces hemp genetic materials.
CBD is a component of the marijuana plant. It doesn’t deliver THC’s psychoactive high. But it is said to have other therapeutic benefits.
Canopy also said it is “well positioned to assist and enable American farmers to move their hemp to market and positions the company as an expert partner in the United States.”
‘Costly And Unpredictable’?
But the FDA noted last month that it was still illegal to “introduce food containing added CBD or THC into interstate commerce.” It added that it was also illegal to “to market CBD or THC products as, or in, dietary supplements, regardless of whether the substances are hemp-derived.”
In November, Macquarie analysts said that “since cannabis and hemp are ingredients, we believe the sustainable value will be in branded products and that brand building will be costly and unpredictable.” Analysts there downgraded Constellation Brands stock.
“It thus seems difficult to see any near-term profits for Canopy and possibly subpar returns for many years, if it continues to prioritize sales growth and market share,” they continued.
Beer, Wine Sales Faltering
Constellation’s beer sales grew 16% to $1.21 billion. But operating margin shrank by 60 basis points to 37.3%, due to higher transportation costs, amid a nationwide trucker shortage. Higher operational costs and marketing investments also hamstrung results.
But before the company reported, Wells Fargo said Constellation’s beer business could see “modest” operating margin contraction — due to marketing spending related to Premier, Familiar and the fall sports season — shifting into the third quarter.
Depletions, or sales from distributors to retailers, grew 7.8% in Constellation’s beer segment.
“While 8% depletion growth is certainly best in class, it nonetheless reflects a ~200 bps sequential deceleration, which will prove disappointing for investors,” Cowen analyst Vivien Azer said in a research note on Wednesday.
Cowen analysts have said that 2018 looks to have been the “worst year for beer sales” in the nearly decade-long period it has covered the alcohol industry. Spirits, wine and cocktails have worn away at beer demand over the years. More younger drinkers have sought ways to avoid the expanding waistlines typically associated with beer. Analysts at Cowen & Co. also believe that increased use of legal marijuana is also a factor in last year’s more-muted beer sales.
Meanwhile, Constellation management on Wednesday said it hoped to take greater advantage of the “premiumization” of wine. The company said most of the company’s growth in the business came from higher-end wines priced above $11.
Wine and spirits sales edged up 0.4% to $762.8 billion. Operating margin in that segment widened 70 basis points to 27.0%. But depletions fell 3%.
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