Rémy Cointreau: Quick Pitch
Cognac's COVID hangover
$RCO.PA on November 4, 2024
Stock Price: €57.50
Market Cap: €3.1B
PREFACE
Welcome back.
This post is about a name I’ve had on the back burner for a few weeks, waiting for it to be a bit more asymmetric. This isn’t meant to be a comprehensive company review, but rather a quick pitch for an investment idea as I’m short on time these days. I would consider doing more detailed work on it if readers feel a need, though I don’t expect it—I think this covers things well enough for now.
To get the most out of your reading, please review the resources linked in the text. As always, please don’t take what I say for granted; earn your conviction.
INTRODUCTION
Rémy Cointreau is a family-owned (40.8% public) French business group that produces and markets fine spirits. The group comes from one of the “Big Four” cognac houses, Rémy Martin, founded 300 years ago in 1724. It earns most of its operating profit (80%+) from cognac. The rest is from Cointreau, a cocktail liqueur, and other wines and spirits. Cognac is the primary driver and the reason the stock has fallen as it has.
The group prizes exclusivity and heritage, releasing limited-edition and small-batch products that appeal to connoisseurs and collectors. Its strong brand recognition and targeted marketing efforts in key international markets, particularly China, have positioned it favorably in the minds of luxury and aspirational-luxury consumers. Offerings range from the V.S.O.P. at $51 for 750 ml to a staggering $134,750 for a 750 ml limited edition.
Sales are split relatively evenly between North America, Europe/Middle East/Africa (EMEA), and Asia-Pacific (APAC). Long-term variance in earnings is driven primarily by economic conditions and shifts in consumer preferences for alcoholic beverages.
THE PROBLEM
COVID-19 stimulus created an environment where many luxury products overearned spectacularly for a short period. People felt rich, and they spent. People no longer feel rich. Cognac has been emblematic in the United States, surging to record sales, but now the American market suffers from a destocking cycle. The cognac category has deteriorated to a point where overall financials for Rémy Cointreau are far below the pre-COVID trend, and the stock price reflects still further deterioration.
Sales in APAC are still surprisingly strong, especially considering the state of the Chinese consumer. H1 Sales, reported 10/25, saw APAC revenues down 8% YoY while American and EMEA sales were down 22.8% and 18.8% respectively, adjusting for currency fluctuations.
While the Chinese market has been resilient, that may change. Last month, China announced tariffs on European brandy, responding to EU tariffs on Chinese EVs. Rémy Cointreau raised prices to pass those costs through to Chinese consumers. The CFO says tariffs should not impact financials significantly through the fiscal year-end in March. However, it is reasonable to expect APAC sales volumes, if not margins, to suffer going forward, so expectations for continued growth or imminent recovery in Asia should be tempered.
THE TRADE
The collapse in demand for cognac has seen the company’s stock price trending persistently lower. It is now -73.5% from the very optimistic 2021 highs. Under the assumption that cognac sales volumes will normalize at or slightly above pre-COVID levels over the next several years, I believe the stock is priced attractively.
The thesis boils down to this:
Cognac suffers from a temporary recession after the post-COVID luxury boom. The stock is priced such that a simple recovery to pre-COVID sales would yield significant upside. Further, if management meets its 2029 operating margin target of 33% and volumes normalize, returns would be better still.
As long as cognac is not suddenly “dead” after 300 years, $RCO.PA likely offers good value at €3.1B today.
My core assumption is the EPS growth rate will normalize to the pre-COVID average of about 7% and the P/E multiple will also return to the historical average of around 30x, typical for the industry. The business faces short-term headwinds with no long-term impairment to demand. The supply of cognac is constrained by geography and processing requirements, so margins—however volatile—should remain healthy, and sales volume is the central question.
MODELING RETURNS
Model Details/Assumptions
Projections for Fiscal Year 2024 (ref. 2024-2025 in RCO materials) were arrived at by applying the YoY H1 growth rates (e.g., -8% for APAC) to previous FY numbers.
Financing expenses, the effective tax rate, and diluted shares outstanding (“Shares”) were treated as constants given the lack of visibility for 2030.
The bull case assumes management achieves its 33% operating margin target for 2029-2030, APAC sales recover to recent highs, and ex-APAC volumes return to the pre-COVID average with retail prices sticky and thus overall sales 20-25% above pre-COVID levels.
The base case assumes operating margins recover to the previous high of 28% due to combined margin expansion efforts by management and a more favorable operating environment. Improvement from 25.5% to a record high of 33% by 2030 seems unlikely. APAC sales settle around where they are currently. The company struggles to generate growth in a depressed Chinese economy. Ex-APAC sales normalize slightly above the pre-COVID average of €730M.
The bear case assumes APAC sales are negatively impacted by hostile trade policy and a depressed Chinese consumer. Ex-APAC sales recover modestly from current levels but do not exhibit sustainable growth. Operating margins continue to deteriorate due to external factors despite cost reduction efforts.
Discount rate of 10% (which I view as appropriately conservative here). $RCO.PA has historically offered a total return of roughly 8% per year on average (pre-COVID).
TTM P/E ratio of 30. This is typical for the stock historically and for the premium alcoholic beverage industry.
Fair Present Value and Returns Visualized
CONCLUSION
Cognac and Rémy Martin have been around for hundreds of years and will continue to be. The industry is suffering through a slow period in the wake of the COVID-19 luxury boom. Looking out several years, normalization in EPS and multiples will lead the stock to outperform without requiring significant new growth, and management’s vision for margin expansion offers extra upside potential. The stock is currently priced for continued deterioration in earnings, offering some margin of safety as to where the bottom may end up.
Thank you for reading. Have a pleasant day.
I do not work for the company in any capacity.
I write for informational purposes only; nothing written or said should be misconstrued as financial advice.