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Fevertree Drinks - Off-trade sales rise due to more home-drinking

Sophie Lund-Yates, Equity Analyst | 4 June 2020 | A A A
Fevertree Drinks - Off-trade sales rise due to more home-drinking

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Fevertree Drinks plc Ordinary 0.25p

Sell: 2,375.00 | Buy: 2,377.00 | Change 0.00 (0.00%)
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The closure of pubs and restaurants have severely impacted on-trade sales. However, off-trade sales, which includes supermarket sales, have performed well.

Due to the uncertainty regarding the timing of restaurant and pub openings, Fevertree is not giving detailed financial guidance this year. However, gross margins will be hit by the shift to off-trade sales and a change in geographical mix.

The shares rose 1.3% in early trading.

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Our view

Falling sales in the UK sparked 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.

'On-trade' sales, meaning pubs and restaurants, usually make up about 45% of the group's sales and that's where the damage from COVID-19 is being felt. While there's been an encouraging upswing in sales from off-trade partners (retailers like supermarkets and convenience stores), we can expect an overall fall in sales. How big that will be is as yet unknown.

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 to reinvest to fund growth. Unfortunately that works in reverse too. If sales fall, profits will fall by more, and this could be especially unpleasant this year.

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 premium rating means investors demand more of it, or the share price could fall sharply.

In order to keep making progress international expansion is key, particularly in the US. It looks like explosive UK growth is over - 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, and the group's investing heavily to try and secure a piece of it.

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 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. International rivals will have learnt from Schweppes' failure in the UK and be better prepared.

The decision at the full year to maintain the dividend is a major vote of confidence in the coming year, and also reflects a sizable net cash position. The group currently offers a prospective yield of 0.8%. However, if the lockdowns go on long enough pressure will start to mount.

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AGM Trading Statement

While pub and restaurant sales have been significantly reduced, off-trade business accounts for 50% of UK revenue and was up 24% in the first month of lockdown, driven by more people drinking at home. There has been "notable growth" in sales from convenience stores.

In the US the off-trade accounts for a larger 70% of revenue, and grew 98% in the four weeks to 18 April and 96% in the four weeks to 16 May - according to Nielson data.

In Europe the impact has varied by region. In the North off-trade sales have traditionally been more important, so sales there have been relatively robust. Southern Europe is more reliant on bars and restaurants, and it has been more significantly affected.

Similar patterns have been present in the Rest of the World although distribution gains have been made, most notably in Australia and Canada.

Full Year Results (22/04/2020)

Fevertree Drinks' full year revenue reached £260.5m in the year ending 31 December 2019, 9.7% ahead of the same period last year. Growth was driven by the US, Europe and the Rest of the World (RoW), whilst UK sales fell 1.1%.

Full year earnings per share fell 5.5% to 50.26p. Management has proposed a final dividend of 9.88p per share, bringing the full year's payment to 15.08p.

The UK still accounts for just over 50% of sales at £132.7m. Sales shrank slightly as the group lapped a particularly strong summer in 2018, which included a world cup, royal wedding and exceptionally hot weather. 'On-trade' sales, meaning pubs and restaurants, grew 5% over the year, while 'off-trade' sales fell 7%, largely as a result of retailer de-stocking.

US sales rose 33.0% to £47.6m, making Fevertree the fourth biggest mixer brand in the country. The group is cutting its prices to drive further sales, but still intends to be at the premium end of the market. So far, the results of this initiative have been encouraging. The group has signed a new deal with a West Coast bottling partner that should further support growth.

European sales rose 16.0% to £64.4m, reflecting an acceleration during the second half of the year. Progress was particularly strong in Spain, Germany and Italy, while the group maintained its market leadership in more established markets like Benelux, Ireland and Denmark.

Sales in RoW rose 31.7% to £15.8m, with good progress in Australia and Canada.

The group's gross margin fell 1.3 percentage points to 50.5%, largely thanks to falling revenue in the UK, higher prices for glass bottles and Brexit uncertainty. The group expects margins to fall further as prices are cut in the US.

The largest contributor to increased operating costs was marketing spending, which rose 36.7% and now accounts for 11% of revenue. Lower margins and increased costs meant profit before tax fell 4.1% to £72.5m.

Fevertree finished the year with no debt and £128.3m in cash.

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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 for more information.