Research Call of the Day – $MNST Upgraded

by Enis December 2, 2013 10:16 am • Commentary

Monster Beverage Corp has grown from a relatively unknown natural juice company (Hansen Natural) a decade ago to a $10 billion market cap beverage company today.  More than 90% of the company’s revenues comes from the Monster Energy beverage line, which now encompasses around 40 different Monster Energy offerings.

JP Morgan upgraded the stock from neutral to overweight today, making it 8 buys, 4 holds, and 2 sells among the analyst community.  The stock reached a 3 month high last week, though still well off its high of the year of $66.12.

MNST stock went on a monster run (ok, first and last pun of the post) from a low around $10 in 2008 to its high of $83.96 in April 2012 (culminating in a rumor that Coca-Cola was considering buying Monster):

MNST weekly chart, Courtesy of Bloomberg
MNST weekly chart, Courtesy of Bloomberg

The bulk of the stock’s move from 2008 to 2012 was actually multiple expansion.  The company exactly doubled sales and earnings from $1.03 billion and $0.93 per share respectively in 2008, to $2.06 billion and $1.86 respectively in 2012.  Meanwhile the stock went up eight-fold.  Here is the 5 year chart of the trailing 12 month P/E multiple:  

[caption id="attachment_33182" align="alignnone" width="505"]MNST trailing 12 month p/e, Courtesy of Bloomberg MNST trailing 12 month p/e, Courtesy of Bloomberg[/caption]

The stock’s 30 P/E multiple is reasonable if the company can achieve the 20% expected earnings growth that analysts project over the next 2 years.  As always a big if, but Monster has grown sales and earnings in each of the past 10 years, a good indication that a solid management team is at the helm.

Monster’s admirable ascent has been accompanied by terrific marketing.  From the drink’s packaging to its performance implications to its sports and entertainment partnerships, MNST has developed significant brand awareness over the past 5 years.  The company places obvious emphasis on brand development, noting:

We believe that one of the keys to success in the beverage industry is differentiation, making our brands and products visually distinctive from other beverages on the shelves of retailers. We review our products and packaging on an ongoing basis and, where practical, endeavor to make them different, better and unique. The labels and graphics for many of our products are redesigned from time to time to maximize their visibility and identification, wherever they may be placed in stores, which we will continue to reevaluate from time to time.

While MNST’s brand value remains strong, the recent malaise in the overall beverage market in the U.S. has led to slower growth in 2013 (only 8% sales and earnings growth).  GS research pointed out the potential impact of the payroll tax cut on beverage sales stagnation in the U.S. in 2013:

  • Payroll taxes may be having a larger impact on the category than we assumed – Key energy drink companies such as Red Bull report that about a third of its sales in the US are purchased through food stamps, so the impact of the payroll tax change, which disproportionately affected the low-income consumer, appears to greater than we expected.

Monster’s stock has been flat since early 2012 as a result of slower growth.  Another concern, however, has been on the legal front.

MNST saw heavy volume selling in what turned out to be a capitulation low after a lawsuit filed in California on Oct. 17, 2012.  In that lawsuit, two parents blamed Monster for the death of their 14 year-old daughter, who drank 2 24 oz. Monster drinks in the 48 hours before her death.  The company claims no wrongdoing, and continues to fight the case in court, with other similar lawsuits popping up since then.  In its most recent 10-Q, MNST management viewed the outcome of those suits as “not material” to the company’s financial results, meaning that they would not be settlements large enough to warrant concern.

The larger issue of the potential medical issues surrounding consumption of Monster beverages has been dimmed, but does remain a background concern for the company.  A favorable settlement in the California case would go a long way to restoring Monster’s reputation on the health and safety front.  Generally though, I do not view the safety risk as significant for the stock.

Finally, implied volatility in MNST is near 2 year lows:

[caption id="attachment_33190" align="alignnone" width="600"]30 day implied volatility in MNST, Courtesy of LiveVolPro 30 day implied volatility in MNST, Courtesy of LiveVolPro[/caption]

While we don’t have a major directional bias at the moment, the idea of calendar spreads could be interesting as March options will capture the next earnings event, a pivotal look at company sales trends heading into 2014.  For now, we don’t have a trade, but we have this stock on our watch list for a potential calendar structure in the coming weeks.