This week, shares of United Breweries reached a record high and it gives us the perfect excuse to talk about Beer, market dynamics and why the the company’s shares have been rallying in the first place.


The Story

Contrary to popular perception, there is nothing glamorous about running an alco-beverage company. In fact, if anything, the industry dynamics are so complicated that only a select few survive. For starters, you have a pricing problem.

Multiple states have laws that prohibit beer manufacturers from raising prices unilaterally. Meaning any time there is an increase in input cost, the manufacturer has to bear the full brunt, until the state government finally decides to proactively negotiate or allow for price hikes. This isn’t limited to input costs alone, instead, it extends to excise duties as well. Excise is a duty charged on every case of beer the moment it leaves the brewery. On average, the company’s excise duty amounts to about 50% of its sales and this number has been on the rise. From about 45% in FY16, excise duty as a proportion of revenue has increased to 55% in FY20.

And you would think the state governments would be kind to the likes of United Breweries after extracting such a huge sum from these companies. But despite rising excise duties, state governments have been reluctant to let beer manufacturers increase prices. Also, every state in India is a unique market in its own right — with a separate set of rules and regulations that keep changing with time. So a company can simultaneously show excellent growth in certain regions, but fail to sell in others. And there’s a lot of uncertainty surrounding pricing power.

Apart from the political vagaries, the business is also prone to seasonal variations. During the summers, a chilled beer provides the perfect respite from the scorching summer heat. And sales naturally rise during the months of April, May, and June. But once the monsoon sets in, sales stagnate. In most cases, breweries are left with excess capacity that they simply can’t put to good use. Capacity utilization hovers anywhere between 60–70% and it’s generally not a very pleasant time for these people.

But it doesn’t stop at that. They also have to contend with prohibition — the act of banning the manufacture, sale, and transportation of alcoholic drinks within a particular location. Gujarat is a state that has had prohibition in place for a good number of years. There are a couple of other states that followed suit. But the problem here is that you never know if a new state is going to adopt prohibition.

And amidst all these uncertainties you had Covid last year. As soon as the first wave hit India, all liquor outlets were shut down for good. But as cash strapped governments realised they were losing millions in revenue, liquor stores were permitted to operate post May 2020. However, the effect of this policy decision hasn’t entirely been robust. For starters, states doubled down on taxation. We saw excise duties rise and a Covid cess on liquor products. Ultimately, taxes alone contributed about 70% to the price.

And while on most occasions, consumers would still pay up for their preferred brands, the financial uncertainties induced by Covid had a negative impact on sales. People simply didn’t want to splurge on beer when they had so many things to deal with. Also, bars, pubs and clubs weren’t up and running for the most part. So naturally revenues tanked. In the first quarter of FY21, sales fell by as much as 75% compared to the same quarter last year. And United Breweries made a loss of 114 crores. It was only in the first three months of 2021 did the company finally witness a turnaround as sales recovered fully and net profit jumped by 130%.

Having said that however, we are yet to see the effects of the second wave and we can say with some certainty that it won’t bode well for the company’s financials. So with all this covered, you could now turn around and ask — Why on earth is the share price rallying?

Well, it may have to do with something else entirely. Heineken, a promoter entity bought an extra 15% stake in the company recently. This had originally belonged to the fugitive tycoon Vijay Mallya. But after the debt recovery tribunal recovered his assets in a bid to compensate lenders including SBI, the stake was sold off to Heineken, who by the way have been trying to assert their control on the company for a while now. And since they’re so gung-ho about United Breweries, experts believe investors may also feel confident about future prospects.

And why not?

The company still holds over 50% of the market and is one of the few entities that’s profitable within this domain. It’s also pretty evident that consumption of beer is perpetually on the rise. While in most countries the proportion of beer sales as a percentage of total alcohol sales stands at 87%, in India, it stands at a measly 20%. Indians are more inclined to consume spirits i.e. whisky, rum.

So the beer market is wide open and it’s there for the taking. Don’t believe us? Take it from Heineken themselves who currently own ~61% of United Breweries. When they were plotting to increase their stake in the company back in 2012, they had a rather interesting set of numbers to present whilst elaborating on the Indian Beer Market.

“India has a total of 90,000 outlets selling beer. China on the other hand has over 44,00,000. While an Indian has to work 46 minutes to buy a bottle of beer, a Chinese national in Guangdong can buy one after working for only 10 minutes.”

Bottom line — Beer is expensive and not enough outlets sell them. However if government policies and tax structures are favorable, India could prove to be a valuable market for future expansion. So maybe they do have a point.

Anyway, what do you think? Do you think UBL is primed for success? Or is this rally just a temporary blip?

Let us know your thoughts on Twitter.

Until then ...

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