Is ABI Planning to Harvest Distributor Profits?
Holy Guacamole!! And people call me Johnny Sunshine ;-) Did you hear (or read) what Credit Suisse beverage analyst Carlos Laboy said at Harry’s Beer Business Daily Beer Industry Summit. I’ve got a real job so I couldn’t attend… sorry Harry, I enjoy drinking on your tab ;-) Harry summarizes it in his March 3 Beer Business Daily (a must read)
“Carlos makes the case that lots of global beverage industry constituencies, from Modelo to Coca-Cola to A-B distributors to even their own minority shareholders, are "in denial" about AB InBev's ability and desire to transfer wealth to their own majority shareholders, largely at their expense.” All bold and underlining emphasis are mine.
"They challenge every industry preconceived notion with financial logic. Nothing is sacred to that financial logic." Carlos says they also have "exceptional strategic vision" as well as having "focusing on one thing at a time". And he has seen them "conquer every next frontier that they have set upon to conquer" by maintaining a "culture of dominance over competitors, employees, suppliers, retailers, and minority shareholders .....They run with a wealth creation agenda for the controlling shareholders.....
Can you say 120 day payment terms for any company that now wants to do business with ABI? How would you like that to be crammed down your throat? Talk about a culture of dominance! Harry continues:
WHAT ABOUT DISTRIBUTORS? What about U.S. beer distributors, are they in denial? Carlos says, "wake up and smell the coffee.....There are many family firms who have mis-estimated their vulnerability to ABI's wealth creation agenda." Carlos points to Brazil where ABI went from 1,500 distributors to 200 in four years, though he acknowledged there aren't any franchise laws there, but "they still have transfer pricing on their side," meaning that they can control distributor profitability.
OK folks, now read the next paragraph slowly and truly attempt to answer his challenge:
Carlos then looked out into the audience and asked, "What is your conviction that ABI will not challenge the old notion that this distributor system is optimal, that they won't try to transfer distributor wealth to their own shareholders, that they will not impose their dominance culture on you? What upside are you holding out for? What options are you pondering."
Let me repeat, holy guacamole! He might be wrong but there certainly seems to be some hard facts and logic behind his opinion. Harry continues:
Later, during the Q&A when I asked Carlos if he was an A-B wholesaler, would he be a buying or selling, he said immediately, "I'd be selling. ABI is not coming in to make you richer or add to your profit pool or, in five years, to make your slice of the pie bigger. We'll be having this conversation five years from now and there will be a slide showing how the distributor slice of the profit pie has shrunk." When I responded that perhaps ABI may wish to increase the size of the pie thereby giving distributors more profits, Carlos responded that "given the ABI that I know, it's not a partnership mentality about growing the pie " but rather a "zero sum game."
For those who wonder, a zero sum game means a situation in which a gain by one person or side must be matched by a loss by another person or side. A zero sum game doesn’t have a win-win situation possible. Now Harry and AB think that ABI would be crazy to go after distributor profitability for a number of reasons… but is this simply whistling past the graveyard? Or on AB’s part, selling the distributors a bill-of-goods to keep them from turmoil?
Are past strategies an indication of future actions? They did spend $52 BILLION to purchase A-B, about twice what the market value would have been at the time of closing… I wonder what the value of the old A-B would be in today’s equity markets?... and without a doubt, the A-B wholesaler network is a powerful and valuable asset… but as Carlos notes, why should we simply assume that ABI will view the present wholesaler situation as optimal? This could be a fatal (or at least a very costly) assumption.
Perhaps InBev paid that much BECAUSE they saw the opportunity to “harvest” an incredible annual stream of revenue from their distributor base. Perhaps they saw this harvest as providing a tremendous annual revenue stream to help fund their future acquisitions and international growth… their own internal financing source that was just waiting to be put to their own use… all at basically no cost! I have no idea if this is the situation but one could certainly make the case for it.
And no MillerCoors distributor should be cheering this possibility… if ABI does decide to harvest distributor profitability; MillerCoors would be foolish not to follow, at least to some degree. I’d let ABI be the spear catcher but I’d be following a few steps behind.
As I’ve said for over the past few years, if you are going to sell, now is the time to do it. And this wasn’t just trying to sell my brokerage services – although Steve and I provide the best value in this industry… yes that is a shameless plug for them ;-)… it was my best consulting advice.
Oh but wait, that was in the past… can we do a Superman thing and go back in time? If you know how, please call me immediately… I’ve got a few things I’d like to do differently ;-) Unfortunately we are in the here and now and the here and now has more than just a few issues.
Many wholesalers are in the game whether they like it or not. The financial value and benefits they receive from their distributorship FAR exceeds the benefits they could reap after a sale, paying taxes, and finding other places to invest these funds. I had a large A-B wholesaler’s CFO call me awhile back to discuss my coming in to spend a day or two discussing whether they should consider selling or not… we spoke a brief period and I told him to save the money – I’m an idiot in that way ;-),.. I seriously doubted if a sale could remotely make financial sense at almost any possible price. He responded he was glad I said that, his analysis indicated that after paying taxes his boss would have to generate a 25% annual return to even get close to the financial benefits he was presently receiving… and that was before the various proposed increases in taxes! In addition, this was before AB became ABI. Perhaps the downside is beginning to outweigh the upside… for this guy I still don’t think so… but Carlos might disagree. Unless you see Armageddon coming, lots of you are in the game.
And of course even if you want to sell (or buy), someone has to get financing… and that is FAR from an easy thing today. Unless you have incredible relations with your bank, most banks won’t lend out for more than 3 years right now… money is simply too cheap and they don’t want to tie in those rates for any length of time… and there is SO much uncertainty throughout the business world that the banks don’t like doing anything that is remotely long term. Pretty tough to make an acquisition of any size and have 3 year financing work for you.
So, you either race to the door… assuming someone will be there holding it for you at a price you can both live with (and finance) or you’re in the game whether you like it or not. And what about values? The public equity markets are down almost 50%. Housing across the country is down significantly… do you really think values for distributorships haven’t been affected by the financial and economic situation we now confront?
So what to do? Rather than looking out and seeing the adjacent or overlapping wholesaler as your next meal… perhaps you would be wise to look at them as your next partner. In these financial and economic environments, mergers make a lot of sense. They are not affected by the decline in values… so what if wholesaler values have dropped 30%? In a merger it is the relative value that matters… and if each wholesaler’s value declines by 30%, the relative value doesn’t change a bit. No one is hurt by this decline.
Mergers are generally cash-free transactions and are done with pre-tax money and incur little to no debt… we don’t need to worry about financing and excessive bank covenants from folks who are worried about their hides, not yours. Mergers drive synergies, i.e. cold, hard cash to the bottom-line… sometimes a lot, sometimes less… but always some. Mergers allow everyone to remain in this industry and reap the long-term benefits that this industry provides… it is still one of the best financial investments one can make. Mergers allow organizations to upgrade staff across the board… creating a stronger and higher performance company. Mergers give the new entity much more power when dealing with suppliers (both old and attracting new) and drive better purchasing power across the board. Mergers create larger organizations where fixed costs are spread over many more cases… providing some economic protection if ABI and MillerCoors do attempt a path of harvesting distributor profitability. Mergers can ensure that all parties have a piece of an entity which is viable for both the short- and long-term.
Whatever the risks in this industry, you are already shouldering them… whether you know it or not. Sure you can race for the door – and for some that is probably the best course of action (but you should have already done so!) – or you can do nothing. This is always an option and it is occasionally even the best choice ;-) Or you can seriously consider a merger. In less than a week we can investigate a merger and discover if there are willing players and if it makes sense to continue the process… is a few days of my billing worth investigating a profoundly important corporate move? I sure think so… but I’m kind of biased in this ;-)
Next post, more on consolidation and the $$ that will continue to drive it.