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Heineken - hit hard by lockdowns

Sophie Lund-Yates, Equity Analyst | 16 July 2020 | A A A
Heineken - hit hard by lockdowns

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Heineken NV Eur1.60

Sell: 92.28 | Buy: 92.30 | Change -0.30 (-0.32%)
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Ahead of its half year results Heineken has reported that net revenue has fallen by 16.4%, while underlying operating profit has dropped 52.5%. The group will also write down the value of its assets by around €550m, and expects to report a net loss of €300m as a result.

This is the result of a 13.4% fall in volumes and a 3.6% fall in prices. After a low point in April volumes started to recover through June as lockdowns began to be lifted. The worst falls have been in the Americas and Africa, Middle East and Eastern Europe regions - which experienced mid-teen percentage falls, driven by South Africa and Mexico.

These were followed by Europe which saw a high single digit percentage decline, and Asia has been more resilient - especially in Vietnam. Sales in shops grew in Europe, but this was not enough to offset declines in bars and restaurants.

Input costs also increased thanks to the shift in buying habits and foreign exchange movements.

The shares fell 5.1% on the news.

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Our View

Heineken's sales slumped during lockdowns, although they are starting to pick up now restrictions are being relaxed. In the event of a sustained economic slowdown Heineken can expect to face further problems, and pressure could mount on its key bar and restaurant customers.

In the first half of the year a 16.4% fall in revenue has led to a 52.5% fall in underlying operating profit. This is known as "operational gearing" - which occurs when a small change in revenue causes a large change in profits.

Brewers are operationally geared because they have large fixed costs and must sell a certain number of pints just to cover these costs. Each extra pint they brew on top costs them very little and adds greatly to profits. Of course, the reverse is also true - when the number of pints sold falls, profits drain away quickly. This is what's happened to Heineken over the last few months.

Coronavirus has come at a time when Heineken was reporting slowing beer consumption in developed markets. A trend being driven by the twin challenges of lower consumption among younger people and ageing populations. But on the other hand, alcohol consumption had been growing in emerging markets.

These trends are accompanied by increased demand for more premium brands. That's somewhere Heineken has something of an advantage - boasting a stable of brands that includes Amstel and Moretti - as well as the obvious one. The group's been able to deliver fairly healthy operating margins, rising from 13% in 2011 to 16.8% in 2019, although these are still some way behind its bigger rival, AB InBev.

Many will be looking to Heineken's new CEO, Dolf van den Brink who replaced the long standing Jean-Francois van Boxmeer in June, to hopefully deliver growth and further margin improvements. But we expect long term strategies will be on the backburner at least in the short term, as the group tackles the more pressing challenges of COVID-19.

That means financial resilience is the first order of the day.

Heineken's responded to the disruption with a raft of cost saving measures, which will be key to helping it weather the storm. While finding these savings are important for all businesses, they're particularly important for companies with high operational gearing.

The balance sheet is an area the group's been traditionally stronger than rivals, which adds to Heineken's resilience. As at 12 February, net debt was 2.6 times cash profits. That's still higher than we'd like given earnings have taken a substantial hit, but it's covered in the near term by the group's financial headroom - with access to undrawn credit and having recently secured EUR1.5bn in additional debt financing - both essential sources of cash.

If the world can avoid a second wave of coronavirus infections and/or a sustained recession the worst may be behind Heineken. Although significant, we don't think the challenges it faces are existential, though the balance sheet may force some difficult decisions if conditions do deteriorate. Heineken's strong brands are still attractive, and we expect the group to recover along with the rest of the economy.

Heineken key facts

  • Current 12m forward P/E ratio: 23.9
  • 10 year average 12m forward P/E ratio since floating in 2014: 17.7
  • Prospective yield: 1.7%

We've introduced this section in response to recent survey feedback.

Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

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Q1 trading details (22 April 2020)

Organic beer volumes fell 2.1% in the first quarter, with March volumes down 14% as lockdowns force Heineken's outlets and production facilities to close.

As a result reported net profit came in at €94m, down from €299m last year.

Heineken expects Covid-19 impacts to worsen in the second quarter.

The group still plans to pay the final dividend for 2019 of €1.04 per share, but has cancelled the interim dividend.

Organic volume growth declined in all markets over the quarter except Asia -which saw 4.4% growth. In Europe and the Americas, Heineken's biggest markets, volume declines were seen in most countries, offsetting positive signs of premiumisaton in the Americas and growth in France and Poland.

All markets saw double digit volume declines in March - as COVID-19 restrictions ramped up, seeing many outlets closed.

Heineken branded beer bucked the trend, seeing organic growth of 5% over the quarter - driven by significant growth in the Americas.

Heineken said full year results will be impacted by lower volumes, negative currency impacts (as emerging market currencies devalue against the dollar and euro) and increased credit losses from customers.

The group has implemented a range of mitigating actions and cost saving measures. All non-essential spending is being reduced and non-committed capital expenditure suspended. Projects and technology upgrade programmes are being temporarily paused or scaled down and will be revaluated.

Heineken has said there won't be any redundancies as a consequence of Covid-19 this year. The Executive Board and Executive Team will reduce their salary by 20% between May and December and together with Senior Managers - will not receive bonuses this year.

Heineken has access to undrawn credit of €3.5bn. There are no financial terms set by its lenders, known as covenants, attached to this facility. In the last few weeks the group has raised an extra €1.5bn by issuing new bonds.

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Update: A previous version of this article indicated that Heineken listed in 2014. This is not correct. The article has now been updated to reflect this.

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.

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