Brown-Forman has been in existence for more than 150 years. The company has survived world wars, economic depressions, and pandemics, and it continues to thrive with significant potential for future growth. Additionally, as a key player in the alcoholic beverage industry, Brown-Forman is considered resilient during economic downturns, which may be on the horizon. In this analysis, I will investigate whether now is the right time to invest in Brown-Forman.
This is not a financial advice. I am not a financial advisor and I only do these posts in order to do my own analysis and elaborate about my decisions, especially for my copiers and followers. If you consider investing in any of the ideas I present, you should do your own research or contact a professional financial advisor, as all investing comes with a risk of losing money. You are also more than welcome to copy me.
Since I have attended the workshop with Phil Town, I have decided to change the layout of my analyses a bit. I will do some more calculations and briefly go through why the company has meaning to me. I have changed the format of the analysis a bit to try to make it shorter and with less numbers. If you want to read more about how I evaluate a company, please go to "MY STRATEGY" on my website.
For full disclosure, I should mention that at the time of writing this analysis, I do not own any shares in Brown-Forman. If you would like to copy my portfolio or view the stocks in my portfolio, you can find instructions on how to do so here. I don't own shares in any of their direct competitors either. I should also mention that Brown-Forman has been on my watchlist for years, so it is a company that I like. Nonetheless, I will keep this analysis unbiased. You can purchase Brown-Forman shares or fractional shares on eToro. eToro is a highly user-friendly platform that allows you to get started on investing with as little as $100.
Brown-Forman was founded in 1870 in Louisville, Kentucky, by George Garvin Brown. The Brown family still owns approximately 51% of the company. Brown-Forman is one of the largest alcoholic beverage companies in the world, engaged in the manufacturing, distilling, bottling, importing, exporting, marketing, and selling of a wide range of beverage alcohol products, including whiskey, tequila, rum, gin, liqueur, wine, and ready-to-drink cocktails. Brown-Forman owns more than 40 brands, with its most well-known brands being Jack Daniel’s, Herradura, Diplomático, and Gin Mare. The company sells its products in more than 170 countries worldwide, with the United States being its largest market, generating 45% of its sales. This is significantly larger than Brown-Forman's second-largest market, Mexico (7% of sales), and its third-largest market, Germany (6% of sales). Brown-Forman employs different distribution methods depending on the region. In the United States, where there are regulations that generally prohibit spirits and wine manufacturers from selling their products directly to consumers, they sell their brands either to distributors or to state governments (in states that directly control alcohol sales), which then sell to retail customers and consumers. Outside the United States, Brown-Forman uses a variety of models, including owned distribution, partnerships, and government-controlled markets. By the end of fiscal 2024, they had owned distribution businesses in 16 countries. Owning their own route to market gives Brown-Forman greater control over how their brands are marketed and sold in these geographies, which is why the company is focusing on increasing its own distribution channels to enhance both value and market share. The most important and iconic brand in Brown-Forman's portfolio is Jack Daniel’s Tennessee Whiskey, which is the number one selling American whiskey in the world. Jack Daniel’s Tennessee Whiskey has been named the most valuable spirits brand in the world in Interbrand's “Best Global Brands” rankings. These brands are what give Brown-Forman its moat.
I believe that Brown-Forman has a strong brand moat. I have confidence in the management, even though I don't have much information about the CEO. Now, let us investigate the numbers to determine if Brown-Forman meets our criteria for a strong moat. In case you want an explanation of what the numbers represent, you can refer to "MY STRATEGY" on the website.
The first number I will investigate is the return on invested capital, also known as ROIC. Ideally, you would like to see a return on invested capital (ROIC) above 10% in all years. Brown-Forman has consistently achieved a solid return on invested capital (ROIC) above 10% for the past 10 years, which is encouraging to see. Nonetheless, it is slightly concerning that ROIC has decreased since 2019 and has not topped 20% since. However, these years were affected by the pandemic and macroeconomic headwinds, which impacted ROIC. Brown-Forman has also made acquisitions during this period, particularly in fiscal year 2023 when they acquired Gin Mare and Diplomatico, which also influenced ROIC. Personally, I believe that the company will manage to top 20% in ROIC again once macroeconomic conditions improve.
The following numbers represent the book value + dividend. In my previous format, this was referred to as the equity growth rate. It was the most important of the four growth rates I used in my analyses, which is why I will continue to use it in the future. As you are accustomed to seeing numbers in percentage form, I have decided to provide both the actual numbers and the year-over-year percentage growth. The numbers are a bit mixed, with some years showing a decrease in equity and others an increase. I believe it is natural for a company like Brown-Forman to experience fluctuations due to selling or acquiring brands. For instance, they purchased Gin Mare and Diplomatico in fiscal year 2023, while they sold the Southern Comfort and Tuaca brands in 2016, just to mention a few. While fluctuations in the numbers may continue, it is encouraging to note that Brown-Forman has consistently increased its equity every year since 2019.
Finally, we will analyze the free cash flow. Free cash flow, in short, refers to the cash that a company generates after covering its operating expenses and capital expenditures. I use levered free cash flow margin because I believe that margins provide a better understanding of the numbers. Free cash flow yield refers to the amount of free cash flow per share that a company is expected to generate in relation to its market value per share. It is not surprising that Brown-Forman has delivered positive free cash flow every year over the past decade. However, it is slightly concerning that Brown-Forman delivered its second-lowest free cash flow in a decade in fiscal year 2024. Several factors contributed to this lower free cash flow, including an increase in interest expenses from fiscal year 2023 to fiscal year 2024. Additionally, Brown-Forman significantly increased capital expenditures in fiscal year 2024, making substantial investments to expand its production capacity. Given these factors, I expect free cash flow to increase in fiscal year 2025 as both interest expenses and capital expenditures should decrease. The low free cash flow has also impacted the levered free cash flow margin, which is at its lowest point in the past decade. This is slightly concerning, and I would like to see a higher margin moving forward. The free cash flow yield suggests that the stock is trading at a high valuation, but this is something we will revisit later in the analysis.
Another important aspect to consider is the level of debt. It is crucial to determine whether a business has manageable debt that can be repaid within a three-year period. This can be assessed by calculating the ratio of long-term debt to earnings. After performing the calculation on Brown-Forman, I determined that the company has a debt-to-earnings ratio of 2,32 years, which is below the three-year threshold. Historically, Brown-Forman has maintained a debt-to-earnings ratio around 3 years, and there is no indication that this will change in the future. Therefore, I don't believe that debt is a cause for concern if considering an investment in Brown-Forman.
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Like any other investment, there are risks associated with investing in Brown-Forman. One risk is macroeconomics. In the annual report, Brown-Forman states that a significant decline in economic conditions such as economic slowdowns or recessions, higher unemployment rates, inflationary pressures, or disruptions to credit and capital markets could lead to reduced consumer confidence in specific countries and overall consumer spending. Brown-Forman experienced this in fiscal year 2024, as management mentioned that higher inflation and increased interest rates led consumers, as well as distributors and retailers, to reconsider when and how they made purchases. As a result, Brown-Forman's fiscal year 2024 results were below expectations, with organic net sales declining by 1% and organic operating income decreasing by 2%. Management expects that the operating environment ahead will remain volatile, with global macroeconomic and geopolitical uncertainties. Therefore, they are not forecasting significant changes, as the impacts of inflation and higher interest rates on consumer and trade behavior are expected to persist. Additionally, management noted that on-premise sales have weakened over the past year as well. Another risk is competition. Brown-Forman operates in an industry that is, and will remain, highly competitive. The company competes against many global, regional, and local brands across various categories of beverage alcohol. Although Brown-Forman's brands have historically competed primarily in the industry's premium-and-above price points, management has noted that the competitive landscape is becoming increasingly challenging. The expansion of product categories by other suppliers, coupled with innovation from new entrants, is intensifying competition. Notably, traditional beverage companies, including those from the beer and soft drink sectors, are entering the ready-to-drink market, which can heighten competitive pressure. Furthermore, consumers may begin to prefer the products of competitors or generally reduce their demand for brands produced by larger companies. Over the past several decades, the number of small, local distilleries in the United States has grown significantly, driven by a trend of consumers showing increasing interest in locally produced, regionally sourced products. Emerging headwinds. The alcohol industry, including major players like Brown-Forman, is confronting significant challenges from three emerging trends: the rise of GLP-1 drugs, increased cannabis consumption, and changing preferences among younger generations. GLP-1 receptor agonists, originally developed to treat diabetes and aid in weight loss, are now being explored for their potential to reduce alcohol consumption. These drugs influence brain areas involved in addictive behaviors, which could lead to a decrease in alcohol cravings. This could result in a notable reduction in alcohol consumption among users of these drugs, posing a direct threat to alcohol sales. Cannabis is increasingly becoming a preferred alternative to alcohol, especially among younger generations. Gen Z, in particular, has grown up in an environment where cannabis is either legal or socially accepted, leading to a cultural shift where cannabis is often chosen over alcohol for recreational use. This trend is supported by the fact that Gen Z consumers are twice as likely as the average American to use cannabis products. As cannabis becomes more mainstream, it continues to pull market share away from alcohol, which could significantly impact companies like Brown-Forman. Additionally, Gen Z is not only drinking less alcohol compared to previous generations but is also more health-conscious and inclined towards sober or low-alcohol lifestyles. This generation is driving the growth of non-alcoholic and functional beverages, which offer benefits like relaxation or health improvements without the downsides of alcohol. Their shifting preferences could erode the customer base for traditional alcoholic products, forcing companies like Brown-Forman to innovate or diversify their offerings to remain relevant.
There is also a lot of potential for Brown-Forman in the future. One such area is premiumization, which offers significant benefits and aligns closely with current consumer trends and the company's strategic growth initiatives. The global market for premium spirits is on an upward trajectory, with a projected compounded annual growth rate (CAGR) of 10,3% until 2027, highlighting a clear shift in consumer preferences towards higher-quality, premium products. Recognizing this opportunity, Brown-Forman has strategically positioned itself to capitalize on this trend by expanding its portfolio with premium and super-premium brands. The company's acquisition of Gin Mare and Diplomatico exemplifies its commitment to this strategy. These brands have not only increased net sales but are also expected to play a pivotal role in Brown-Forman's long-term growth. The emphasis on premiumization has also positively impacted Brown-Forman's financial performance, contributing to a 150 basis points expansion in gross margin for fiscal 2024. This improvement is largely attributed to a favorable price mix driven by the company's premium brands, further demonstrating the financial viability of this strategic focus. Hence, premiumization provides Brown-Forman with a robust framework for driving sustained growth, enhancing profit margins, and strengthening its brand portfolio in a way that resonates deeply with evolving consumer preferences. The ready-to-drink (RTD) portfolio represents a significant growth opportunity for Brown-Forman, driven by evolving consumer preferences and strategic collaborations. One of the most notable successes in this category is the launch of the Jack Daniel's and Coca-Cola ready-to-drink cocktail, developed in partnership with Coca-Cola. This product has quickly become the most successful launch in Brown-Forman's history. The strong initial performance has encouraged the company to expand the product into additional markets, reflecting its long-term potential. CEO Lawson Whiting highlighted that consumers are willing to pay a premium for spirit-based RTDs over malt-based alternatives, suggesting that Brown-Forman stands to benefit significantly from this trend. The Jack Daniel's and Coca-Cola RTD exemplifies how the company can leverage its iconic brands to tap into the growing demand for convenient and flavorful beverages. The success of the Jack Daniel's and Coca-Cola RTD not only enhances Brown-Forman's portfolio but also strengthens the global presence of the Jack Daniel's brand. Despite some challenges in transitioning from pre-existing products, the overwhelming consumer response, with more than 86% indicating a strong intent to repurchase, underscores the product's potential to build a stronger, more global foundation for the Jack Daniel's family. Jack Daniel’s represents a significant asset for Brown-Forman's future growth due to its enduring brand strength, consistent performance, and strategic expansion. Despite facing short-term industry challenges, Brown-Forman remains confident in the long-term potential of Jack Daniel’s. The brand's growth trajectory is remarkable, with a consistent 5% compound annual growth rate (CAGR) over the past thirty years, underscoring its sustained popularity. The Jack Daniel’s family of brands encompasses a diverse portfolio that appeals to a wide range of consumer preferences and occasions, spanning various price points and geographies. This versatility positions the brand to effectively engage both its core audience and a new generation of legal drinking age consumers. Additionally, Brown-Forman is strategically capitalizing on the global growth of American whiskey by accelerating the geographic expansion of the Jack Daniel’s portfolio, particularly in markets where American whiskey is still emerging. The introduction of flavored variants like Jack Daniel’s Tennessee Honey, Fire, and Apple has also broadened the brand's appeal, especially among women and younger drinkers. These flavors not only provide an accessible entry point to the brand but also offer convenience for easy mixed drinks, contributing to their strong sales performance.
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Now it is time to calculate the share price. I perform three different calculations that I learned at a Phil Town seminar. If you want to make the calculations yourself for this or other stocks, you can do so through the tools page on my website, where you have access to all three calculators.
The first is called the Margin of Safety price, which is calculated based on earnings per share (EPS), estimated future EPS growth, and estimated future price-to-earnings ratio (P/E). The minimum acceptable rate of return is 15%. I chose to use an EPS of 2,14, which is from fiscal 2024. I have selected a projected future EPS growth rate of 7%. (management expects between 6-8% growth). Additionally, I have chosen a projected future P/E ratio of 14, which is twice the growth rate. This decision is based on the fact that Brown-Forman has historically had a higher P/E ratio. Lastly, our minimum acceptable rate of return is already set at 15%. Doing the calculations, we come up with the sticker price (some call it fair value or intrinsic value) of $14,57. We want to have a margin of safety of 50%, so we will divide it by 2. This means that we want to buy Brown-Forman at a price of $7,29 (or lower, obviously) if we use the Margin of Safety price.
The second calculation is called the Ten Cap price. The rate of return that an owner of a company (or stock) receives on the purchase price of the company is essentially its return on investment. The return should be at least 10% annually, and I calculate it as follows: The operating cash flow last year was 647 and capital expenditures were 228. I attempted to review their annual report to determine the percentage of capital expenditures allocated for maintenance. I couldn't find it, but as a rule of thumb, you can expect that 70% of the capital expenditures will be allocated to maintenance purposes. This means that we will use 160 in our calculations. The tax provision was 274. We have 472,6 outstanding shares. Hence, the calculation will be as follows: (647 – 160 + 274) / 472,6 x 10 = $16,10 in Ten Cap price.
The final calculation is called the Payback Time price. It is a calculation based on the free cash flow per share. With Brown-Forman's Free Cash Flow Per Share at $0,84 and a growth rate of 7%, if you want to recoup your investment in 8 years, the Payback Time price is $9,77.
Brown-Forman is indeed an interesting company with a strong competitive advantage, and I share your confidence in its management. However, the company has faced challenges in the past four fiscal years, including lower-than-usual ROIC, which has been impacted by the pandemic and macroeconomic headwinds. Free cash flow and the levered free cash flow margin have also declined. While I am optimistic that ROIC and free cash flow will grow in the future, these recent declines are worth noting. Macroeconomic challenges have particularly affected Brown-Forman over the last couple of years, with fiscal year 2024 coming in below expectations. Management has indicated that these challenges are likely to persist into fiscal year 2025, although they should eventually improve. The company operates in a highly competitive market, where it primarily competes with other large corporations. However, competition is increasing as traditional beverage companies enter the market, and the growth of small, local distilleries in the United States reflects changing consumer preferences. Moreover, like all companies in the industry, Brown-Forman may face future headwinds from GLP-1 drugs, cannabis, and changing consumer preferences in Generation Z. The impact of these factors is difficult to predict. On the positive side, Brown-Forman’s focus on premiumization provides a strong framework for driving sustained growth, enhancing profit margins, and strengthening its brand portfolio in line with evolving consumer preferences. The ready-to-drink segment, particularly the strategic collaboration with Coca-Cola, represents a significant growth opportunity and has already shown promising results. Additionally, the long-term growth of the Jack Daniel's brand, with a 5% compound annual growth rate over the past thirty years, is impressive, and management expects this growth to continue with the introduction of new products under the brand. While there are many positive aspects to Brown-Forman, the recent decreases in ROIC and free cash flow, along with uncertainty about future headwinds, lead me to consider investing only if the company reaches the Ten Cap price of $16.
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