I am not inclined to disclose to my doctor my slightly alarming consumption numbers. Over the last half century, my beverage intake has included around 4,000 gallons of coffee and tea, 2,000 gallons of wine, slightly less of other fermented drinks and a rather feeble 20 gallons of various spirits. Although the expense has exceeded the value of my home, I comfort myself that the total liquid equivalent is a mere 1.1% of the volume of an Olympic-sized swimming pool. As an investor I also have various drink interests: in my share portfolio; as a partner in a wine-investment group; as the owner of two pub/restaurants; and as an occasional grower of malting barley.
Leaving aside my personal habits I am a big fan of investing in the beverage industry for three reasons: it is largely unaffected by the economic cycle; it offers steady growth; and valuations are reasonable. Moreover, we are clearly in a global stockmarket bubble (see page 5). Whether the inevitable pop is next week or next year, these companies will not only survive but continue to grow.
The sector can be broken down into alcoholic and non-alcoholic drinks. The latter category comprises soft drinks plus teas, coffee and water. The actual size of each category remains a mystery. In the booze business, consensus estimates are that up to 30% of all sales globally are either bootleg, smuggled or counterfeit. Africa and Eastern Europe are the leaders here, at 40% and 27% respectively. In soft drinks much activity is simply unrecorded.
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Overall, the legal alcohol business boasts annual sales of about $1.6trn; non-alcoholic, $1.2trn. Growth forecasts for alcoholic drinks over the next five years are about 3.5% per annum, for the non-alcoholic groups around 5%. I suspect both numbers are too low. There is a clear correlation between rising incomes and higher expenditure on beverages, while the black market tends to shrink.
Vast catch-up potential in Asia
At present, two thirds of the world’s population in Asia really aren’t pulling their weight with alcohol. Overall, the world drinks 6.4 litres of alcohol per head every year. Europeans, despite falling consumption, still get through 11.3 litres, North America 9.7. Developing countries will catch up. Some already have: in Vietnam consumption has doubled in a decade to nine litres; Nigerians are already drinking 13 litres a year (in vast volumes of relatively low-alcohol home brew). The effect on sales, especially as Asia catches up, will be enormous.
The other boost to alcohol sales is coming from women in developing countries, where male drinkers outnumber female ones by about 2:1. This was also true in Europe, but as more women enter the workforce and incomes rise, so they too catch up. In Europe the male-to-female ratio of drinkers is 10:9. What alcohol does the world drink? Beer (and related brewed products), then wine and lastly, spirits. If we are considering profitability, however, the list reverses.
There are many problems across the entire beverage industry, from bottled water to coffee, wine to whisky. One is that they are very competitive, not least because the barriers to entry are few. This means that profit margins tend to be low. Formulating and making drinkable liquids is relatively easy and cheap. Consider breweries. Even as total beer sales slide, the number of breweries in the UK has risen from 750 to 2,200 in the last decade, driven by the craft-beer boom. This trend has been mirrored in all English-speaking countries. There has been a similar surge in specialist coffee roasters. In the UK the number has doubled in less than five years.
Traditionally what you drank was dictated by your nationality, class and even religion. In 1939 France was drinking over 22 litres of pure alcohol per head each year; Germany just seven. France’s alcohol consumption has nearly halved since and is now less than Germany’s. Beer and tea were staples for poorer groups in the UK even 30 years ago; both are still important, but coffee and wine are ousting them. Catholics traditionally drank gin, Anglicans sherry; Methodists and Muslims were meant to abstain. Japanese drank sake, Italians wine, the Irish Guinness and the Spanish brandy.
Swapping beer for wine...
These old habits, however, have become blurred. In major wine-making countries consumption has been falling steadily to be replaced by beer. Yet the countries that once had a beer culture now can’t get enough wine. In 1960 beer and wine accounted for 81% and 5% respectively of UK alcohol sales. Today wine is 36% of the market, beer 35%.
There have been several revolutions taking place simultaneously across the beverages business. The first has been huge diversification. This has been driven by the steady decline of beer drinking in wealthy countries, the closure of many poor vineyards, combined with consumers preferring wine and more sophisticated drinks. Brewers and distillers have moved into soft or non-alcoholic drinks.
An example was Diageo buying control of Seedlip, which it described as “a game changer”. Seedlip pioneered distilling gin with the alcohol, then removing it, which to me seems an exercise in futility. No matter: at more than £30 per litre despite no excise duty (versus around £20 for the real McCoy, Gordon’s gin – also made by Diageo) you can see why the profit margin could be eye-watering.
Denmark’s Carlsberg is making a big push into non-alcoholic beers and flavoured water and expects the former to have 15% of the beer market within a few years. Coca-Cola, having moved into coffee and water, is now making tentative steps into alcohol, with alcopops in Japan and “hard” seltzers in Mexico. Guinness (also owned by Diageo) recently moved into a non-alcoholic version of its eponymous brand.
The launch didn’t go well; the UK batches were recalled owing to microbiological-infection risks. Meanwhile even France’s Pernod, best known for pastis (a drink widely considered a short-cut to blindness and liver failure) has diversified into other spirits, wines and low-alcohol substitutes. Many brewers have become gin makers. Another revolution has been taking local brands global. Rum was a minor spirit until Cuban mojitos became heavily marketed as ultra-trendy. Japanese sake is soon to be launched in waves on an unsuspecting world and, to the horror of purists, with extra flavourings.
Then there is the mixing up of old spirits to make new flavours. The new big thing may be Yuzu (“tastes like sunshine”) and Uma – fruits from Japan and Korea being marketed in soft drinks, mixers and gin. Everywhere companies are playing with new flavours and concoctions.
... or non-alcoholic drinks
The largest revolution however appears to be an outbreak of teetotalism (which I’m glad to see in my pubs – the profit margins on soft drinks are higher and customer behaviour better). Less alcohol drinking is understandably encouraged by governments, but results are overhyped. Fewer than half of all males between 16 and 25 drink alcohol at least once a week, while consumption has also been falling among under-45s of both sexes.
But the abstainers are taking something worse: recreational drugs, now an estimated £10bn industry in the UK, where despite fewer users, the death and mental disorder rates have caught up with alcohol. “Drink awareness” has risen, but its impact is muted as producers create ever-more exotic, addictive but seemingly lower-alcohol brands.
Does taste matter for alcoholic drinks? The answer is nuanced. Watney Mann, once one of Britain’s largest brewers, pioneered homogenisation with its Red Barrel bitter and pub estate. The beer was sludgy and gaseous, the pubs like a dentist’s waiting room and the alcohol content in its Special Bitter was almost low enough to sell to children. The public revolted and the company disappeared.
Port was once a huge seller, especially in the UK, but badly marketed. Thus unlike with fine wines or whisky, prices for good vintages have not even kept up with inflation. The vodka boom is fading and sales are falling. Even in Russia consumption has halved this century after a strong government clampdown on drunkenness.
More important than taste is advertising spend, packaging and shelf space. The larger companies are awesome in their muscle and reach. Anheuser-Busch Inbev – the world’s largest seller of alcoholic drinks – spends $1.5bn a year on marketing, just in the US.
Baileys Irish Cream was invented in the early 1970s, a simple concoction of inexpensive blended whisky and cream of which Ireland had a surplus because of the shift to skimmed milk. According to its inventors, the most time and money was spent on the name, the bottle colour and the advertising. Baileys sold its billionth bottle in 2007. Had it not been for the heft of its parent company (one of Diageo’s forerunners) it would have been strangled at birth ; in my view it’s a pity that didn’t happen.
Soft-drink companies suffer far less government interference and taxation but are even more subject to changing fashions and competition from myriad start-ups and imitators. Hence even the behemoths such as PepsiCo and Coca-Cola have to stay alert. Coke still controls half the global market in carbonated drinks but was forced to diversify into non-carbonated ones and to spend ever more on acquisitions and advertising to maintain market share. It is also at risk from the health lobby and taxes to curb obesity.
Mexico is Coke’s second-largest market and the world’s fattest large country with soaring diabetes rates, which the government correctly ascribed to carbonated drinks. Coke has a 70% market share. A sugar tax was introduced in 2014. Pepsi chose to diversify into the snacks and food markets, which offer lower margins but less risk. Meanwhile nimbler competitors pose a permanent threat. Austria’s Red Bull entered the US market only in 1997. It now has a one third share of the fast-expanding energy drink market.
Drinks you didn’t know you wanted
The soft drinks industry is fantastic at persuading you to buy what you didn’t know you needed. Coffee is one example – the ubiquitous machines and capsules. Invented by a Nestlé employee in 1976, the company did nothing for a decade then marketed it badly.
Meanwhile in America, two inventors founded the Keurig Coffee company in 1992 to sell the same products. Business at both exploded, as did imitators. Profit margins are three times that of good roast coffee in bags. Around 60 billion capsules went into landfill last year, eight for every person on the planet.
But most impressive in the marketing stakes is water. In developing countries water infrastructure systems are often weak but in the advanced nations never have so many people had access to potable piped water. Yet global bottled water sales by volume still overtook carbonated drinks in 2016.
Despite clean water, in 2019 America and Germany drank 162 litres per person. Globally over 500 billion bottles were sold last year. Yet for all the obvious contradictions bottled water remains a growth business with new iterations appearing regularly – “smart” or “glacier sourced” – with astonishing margins. Even better, advertising costs to sell what is effectively tap water in bottles are far lower than for all other beverages.
The soft and alcoholic-drinks markets will continue to adapt and expand. Some old brands will fade, a few extraordinary experiments on the way will succeed. One Silicon Valley start-up claims it can reproduce the taste of barrel-aged whisky, rum or brandy in five days. Other North American companies are launching cannabinoid-infused tea. Who knows?
The beverage industry has proved itself highly adept at rapid evolution and lobbying. The alcoholic-drinks trade is currently dominated by consumption and companies in developed countries; only one developing country makes the cut, China’s Kweichow Moutai (whose eponymous drink is truly awful).
But the signs of a shift are clear. China is the world’s number one beer consumer. Its richest businessman is not a techie but a bottled water magnate. Last year a bottle of Japanese The Yamazaki 55 whisky sold at auction for £605,244, the third highest price ever recorded. The writing is on the wall; the growth in consumption in Asia and emerging markets could even herald a golden age.
Evidence of humankind making fun drinks go back 8,000 years. It was a growth industry then and will remain so. In the box below I set out some investment ideas.
What to buy now
There is a plethora of funds covering consumer and luxury goods, but I can find none which are specifically for the beverages sector. Fortunately, there is an array of good large and medium-sized companies. Of the ten largest alcoholic-drinks companies worldwide, the Japanese ones desperately try to buy growth and overpay; so too the Americans, while China’s Moutai is absurdly valued. Nevertheless, three of the ten are good long-term investments.
The UK’s Diageo (LSE: DGE) has been a global success story and has consistently beaten the UK All-Share Index and most of its peers. With a £71bn market capitalisation, it owns a stable of famous brands across most spirit and beer categories and continuously adapts its portfolio to changing tastes. As for all beverage companies, the pandemic has hit sales, but recovery will follow later this year.
France’s Pernod Ricard (Paris: RI) is smaller but still boasts a hefty market value of £41bn and has largely performed in line with Diageo. It is more Eurocentric (where the drinkers are). Beyond pastis, it is the world’s second-largest wine and spirits seller. I have never held either because they have always looked expensive but they have continuously delivered. This year I will buy.
Of my other four recommendations I own the first three. For almost pure exposure to lager/beer, the pick is Carlsberg (Copenhagen: CARL-B). Despite lagging leading European indices, I remain a holder because of its high exposure to emerging markets, especially Asia, where some of its many brands enjoy a premium rating. The company suffered from betting too heavily on Russia, but that damage is now in the past. I estimate that the stock is on a 2022 price/earnings (p/e) ratio of 18, almost as cheap as it has ever been.
Davide Campari-Milano NV (Milan: CPR) has been a stormer over the last decade, less because of Campari than the success of a “Campari-lite” lower alcohol spin-off called Aperol, popular with students across much of Europe. Family-controlled and conservative, it makes few acquisitions but generally manages them well. As a result, it also has strong whisky, vodka and liqueur brands.
For pure wine exposure the best is Australia’s Treasury Wine Estates Ltd (Sydney: TWE), the more so as after an eight-year run it has been hammered by recent trade friction with China, one of its main markets. This will pass. Spun out from Fosters in 2011, it owns world-class vineyards and wineries across Australia. It is the world’s fourth-largest wine group by volume with an excellent range.
When it comes to soft drinks, I think the performances of Coca-Cola and PepsiCo are underwhelming. My pick is Britain’s A. G. Barr (LSE: BAG), maker of “Scotland’s national drink” Irn Bru along with a wide range of still and fizzy drinks and mixers. A medium-sized stock with a market value of £500m, it suffered a rare slip in 2018 when changing the formula to reduce sugar content, which caused the share price to halve from £9.50. Debt free and well-managed, it is a real opportunity.
Finally, a sneaky back-door way to play the popular trend of flavoured and sweet-smelling soft and hard drinks is through Germany’s Symrise (Frankfurt: SY1). Valued at €15bn, it is one of four companies that dominate the global market for fragrances, flavourings and active cosmetic ingredients, key inputs for a vast range of foods, drinks, perfumes and even soap. Since the financial crash it has grown steadily, increasing net earnings by over 10% a year.
Jonathan Compton was MD at Bedlam Asset Management and has spent 30 years in fund management, stockbroking and corporate finance.
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