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Fevertree Drinks - UK sales slip and margins slump

Nicholas Hyett | 20 January 2020 | A A A
Fevertree Drinks - UK sales slip and margins slump

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No news or research item is a personal recommendation to deal. All investments can fall as well as rise in value so you could get back less than you invest.

Fevertree Drinks plc Ordinary 0.25p

Sell: 1,980.50 | Buy: 1,984.00 | Change 11.50 (0.58%)
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Fevertree Drinks full year revenue is expected to reach £260.5m, 9.7% ahead of the same period last year but slightly below market expectations. Growth was driven by the US, Europe and Rest of World (RoW), whilst UK sales fell 1%.

Full year earnings per share are expected to decline by 5%, as increased investment impacted margins.

The shares fell 20.3% in early trading.

View the latest Fevertree share price and how to deal

Our view

Fevertree's full year trading update made for ugly reading. Falling sales in the UK will inevitably spark fears the gin boom has turned to bust, while guidance for weaker sales in the US and lower margins undermine Fevertree's long term pitch that it can replicate its success across the pond.

The problem is exacerbated by Fevertree's past successes. Expectations are high, and while year-on-year revenue growth of 9.7% would be music to the ears of most consumer goods groups, Fevertree's PE ratio of 32 (prior to this announcement) means investors demand more of it.

Fevertree has benefited from significant operational gearing during the good times. It outsources most of its operations - think bottlers and distributors, and that gives the group flexibility and makes expansion cheaper. A lean operating model means profits drop straight through to cash for shareholders or to reinvest to fund growth. Unfortunately that works in reverse too. If sales fall, profits will fall by more.

The group's not standing still, and is investing heavily in its brands both at home and abroad. The extra costs are eating into margins, with profits expected to head backwards as a result, but are probably necessary in the long term.

The good news is that US sales are moving forwards, and that's crucial. Even before today's announcement it was clear UK sales were struggling - there's a limit to how much premium tonic you can sell and it looks like Fevertree is approaching it. The US is an untapped market by comparison.

A sizeable net cash position should mean the, admittedly modest, 0.9% prospective dividend yield is maintained too.

But although Fevertree retains an excellent business model, very strong brand and solid balance sheet, we think the next few years could be a struggle. North American tastes are more geared towards dark spirits like Whiskey and Rum, which puts Fevertree's ginger ales and colas centre stage - and the competitive landscape there is crowded. Meanwhile international rivals will have learnt from Schweppes' failure in the UK and will be better prepared.

It's impossible not to be impressed by Fevertree's growth to date, but the shares will lose their sparkle if the group's premium mixers fail to justify its premium rating.

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Full Year Trading Update

The UK still accounts for over 50% of sales, at £132.6m, despite sales struggling over Christmas. The group saw sales slow across both the On and Off-Trade and expects that trend to continue into 2020. However, management continue to expect a return to growth this coming year.

The US saw sales rise 33% to £47.6m. However, the introduction of new sales initiatives are expected to result in a one-off impact on net revenue growth in 2020, now expected to be in the low double digits. Growth will return to its previous trend thereafter.

European sales rose 16% to £64.4m, slightly behind management expectations. However, management point out that the group is outperforming other premium competitors in the region.

Sales in RoW rose 32% to £15.8m, with good progress in Australia and Canada.

Ongoing investment is expected to negatively impact margins next year, with gross margin of 49% and EBITDA margins of 28%.

The group expects to finish the year with net cash of £128m.

Find out more about Fevertree shares including how to invest

Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.