Five Questions for Boston Beer

FILED NOVEMBER 1, 2018

Dear Client:

Boston Beer had an impressive Q3 call last week, boasting +18% depletions and a crazy 23.5% shipment jump, on top of 24% revenue growth. The stock is almost back to its all-time high [currently around $312] - particularly impressive for this recently sheepish market.

But we still had some unanswered questions after the earnings call, so we got Boston founder Jim Koch on the phone.

ON SEARCHING FOR A NEW CMO. Former CMO Jon Potter stepped down at the end of July after a two-year stint. We asked Jim how the search for his replacement is going, and whether we can expect it to take as long as the CEO search.

"We didn't start the search until August, so it's not that long," he said. They were quite close with one candidate, but it didn't work out.

"I don't know how long it will take, but it won't take a year and a half. And ... we have the luxury of making sure we hire somebody really good. Because [new CEO] Dave Burwick, in his past, has been a world class CMO. He's been very involved with that role for now and we have a really good team underneath the CMO role. So, we're taking our time to find someone we think is not only a superstar, but also fits our culture." (That's pretty much what he said about filling the CEO role, which seems to have worked out pretty well so far.)

Jim notes that their newest ads, developed with a lot of involvement from Dave, are "a return to what has worked" for the Sam Adams brand in the past: "talking about the beer, ingredients, and brewing process; educating people with interesting facts and stories. And grounding it all in product quality." To that, they've added "a little sharper focus on the culture that's now kinda mainstream, of artisanal quality and craftsmanship that's spread well beyond beer, into just everything people eat and drink, from cheese to pickles to breads"

MORE HINTS ON NEW HEALTH AND WELLNESS INNOVATIONS. Speaking of cross-category insights: On the call, Jim and co. mentioned that their big innovation bets for next year play into the health and wellness trend that's been sweeping American CPG.

We poked and prodded for more. Clearly these new items play in the functional space, and with a nod toward trends moving from the non-alc space over to wine, spirits and new innovations in the beer aisle.

"We are looking at things that are on both sides of what I think of as 'better than' or 'healthier than,'" said Jim. ("We can't say 'better for you'" in bev alc, he notes.) "I would put Truly in this category because it's an alternative that has all the alcohol of a 5% beer, but 0nly 1 gram of sugar, and only 100 calories."

So, "we're looking at things like that, on one side: alternatives that have less 'bad stuff,' like significantly less sugar. And then we're looking at things on the other side that may not have much less sugar and calories, but include other ingredients that are generally considered more healthy, so more 'good stuff.' And we're seeing these trends migrating from non-alc to alcoholic. We're looking at that for innovation."

More generally, they're looking at things that are "more natural, more wholesome." For example, "cider has a wholesomeness to it because you know where it comes from" apples and orchards." He notes that wine has that sort of "natural, wholesome image that we think beer deserves. Cider also has its origin in nature - an orchard is to cider what a vineyard is to wine. Versus, say, an FMB, where people don't really know where it comes from or how it's made."

ON 2019 PRIORITIES. Boston has three priorities for next year, one of which is getting these new innovations off the ground.

But another priority is having "a great sophomore year" with 2018 innovations.

"This has been an exceptional year for innovation from Boston Beer Co.," said Jim. "We had five of the top 30 new products," with Angry Orchard Rose, Truly Wild Berry variety and 6-packs, Sam 76, and New England IPA. In year two, they'll be driving expanded distribution hard. "All these innovations have a high rate of sale and a much lower rate of distribution so there is a lot of low hanging fruit for our distributors."

"We'd love to hit five home runs next year, but we're more focused on filling out distribution of all five of those 2018 home runs. We don't want those to be one year wonders and not get the easy volume from the distribution upside in year two."

The third (actually, first) priority for Boston? Growing core SKUs: Sam Adams Lager, Sam Adams Seasonals, Angry Orchard Crisp, Twisted Tea Original and Half and Half. "Those five items make up 60% of our volume. If they don't grow, it's tough to make it up with innovations every year," Jim pointed out. Obviously, some of those will be harder to accelerate than others, if current trends tell.

ON GETTING SAM ADAMS BACK TO GROWTH. Boston overall is up double digits in scan data. But many know that Sam Adams brands are still down.

We happen to think that all brands are cyclical, and only those who are currently up suggest otherwise.

Jim's opinion?

"To me, the thing that builds a brand is that you continue to invest even when it's not growing," he said. And indeed, "We continue to support Sam Adams at the same levels we did five years ago, when it was growing high-single digits."

"When you look at the real home runs, like Twisted Tea" it has grown double digits for almost 20 years. So it can happen, if you're patient and willing to put time, energy and resources against it. The same is true even for Sam Adams: yes, it's been down for several years, but we've continued to overinvest in it, as Corona did. If I remember the numbers right, Corona peaked in '08, and got back to that volume about seven years later. To me, Constellation is a role model of commitment to long-term brand building ... they know that very few brands grow every single year. And this year, Sam Adams Seasonals are back to growth. So patience and steady commitment can make a difference.”

ON THEIR DISTRIBUTOR NETWORK. Finally, we had to ask if they were making any tweaks to the distribution network, as many in the industry have.

"Not really," said Jim, "we're very committed to our wholesalers and they are committed to us. That mutual commitment has been an important part of our success." Jim did note that in the last five years, they have migrated from some of the legacy wine and spirits wholesalers they went with in the beginning, when beer distributors wouldn't take the brand.

"I had some wholesalers from the 1980s who were primarily wine and spirits wholesalers and had largely moved out of the beer business. Over the last few years, as their business models changed away from beer, we've been able to go into beer wholesalers, like in Arizona several years ago, in a lot of Ohio (recall the whole change of ownership for Southern Glazer's there), and just this year, in the state of Georgia."

"That's the one pattern you might see if you look: we've had opportunities with ownership transfers, or wholesaler rationalization like in Georgia, where United, our new wholesaler, traded liquor brands, like Absolut, for Boston Beer brands. That was a win for both parties. So we've been able, in some significant markets, to find a home with a beer wholesaler, which is generally where we fit these days."

WITH FLAT BY '18 OUT OF THE PICTURE, MILLERCOORS PUTS FORTH NEW GOALS

Three years ago, MillerCoors set a goal of getting back to flat by 2018. A few months ago, they admitted that that ain't in the cards this year. Now, they're reluctant to even talk about a timeline of getting to flat volume.

So what is their goal moving forward? Two things: First, they seek to defend their big positions in Miller Lite and Coors Light, and at the very least hold their share in the U.S. beer industry. Secondly, they want to simultaneously reshape their portfolio and push it in an above premium direction.

Those are the two priorities for the "foreseeable future," Molson Coors chief Mark Hunter said on yesterday's earnings call for the third quarter.

"When we tick those boxes, and particularly holding our share, then we can start to talk about a timeline for getting to flat volume… But we'll stay very focused on improving our share trajectory and premiumizing the portfolio, certainly, as we go into 2019 and probably into 2020 as well."

Obviously, the biggest and most important challenge they face in the priorities outlined above is getting Coors Light back on the right track.

Mark acknowledged that the past "three or four quarters" have been "disappointing" for Coors Light, the second largest brand in the U.S. beer industry.

What's their diagnosis for Coors Light's disappointment, and why have Miller Lite's trends been less disappointing?

"We have found where brand propositions are sharp and they're differentiated, they succeed, and I think you can say that Miller Lite has clearly succeeded in that," MillerCoors chief Gavin Hattersley said on the call. "And where some of our brands have struggled, you'll see that the brand propositions are either soft or they're not communicated well. And we think that that's the challenge that Coors Light has faced."

In particular, "We think we focused too much on Rocky Mountain lifestyle and not enough on what makes Coors Light unique as the 'World's Most Refreshing Beer'," Gavin said.

The solution for Coors Light? "The brand's at its best when it's laser-focused on its messaging and makes it absolutely clear what makes Coors Light different than the competition," Gavin said.

To wit: they just launched a new "Blue Mountain Cold Beer" digital campaign as part of their push to capture the attention of 21-34-year-old drinkers. "We think we have a whole generation of drinkers that don't know about our 'Cold Activated' packaging and we want to give them reasons to believe and understand that Coors Light is the World's Most Refreshing Beer," Gavin said.

"So you're going to see a lot of work rolling out," he said. The work started with the digital campaign above a couple weeks ago, "and you're going to see it continue through next year where we bring this whole graphic expression to life."

The brass made it clear that they have no intention of giving up on Coors Light or redistributing its efforts between it and Miller Lite.

"There's no doubt that the American Light lagers are facing a number of different challenges, but [for] the American consumer, it still represents more than 40% of beer sold in the United States… So we think that there is a lot of volume out there for us," Gavin said. "We think, by sharpening up and focusing on Coors Light, that we can turn this brand around and perform at the same level as Miller Lite, if not better. And that is our job, and that's what we're focused on."

Meanwhile, MillerCoors is seeing better results on their priority to drive the portfolio in an above premium direction. They shared that their above premium trends "improved sequentially" over the quarter, thanks to Peroni and Sol -- both of which are "posting the strongest percentage growth rates in their respective import segments" as well as FMBs like Arnold Palmer Spiked and Henry's Hard Sparkling. Adding, that they're excited about their new line of low cal FMBs, Cape Line, coming next year equipped with national advertising.

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BREAKING: TV ADVERTISING IS DEAD

A beer distributor texted me lamenting that during a baseball playoff game, there were 12 liquor ads and only one beer ad (Modelo Especial, at the end of the game). I responded back, "So what?"

A common refrain I hear is, "live sports is the last bastion of watched TV ads." I'd beg to differ. Even on live sports, people either delay it to skip ads or they go to the bathroom or get a beer. People are even delay-taping Good Morning America so they don't have to watch ads. And Saturday Night Live? No, people watch the most popular SNL clips on Sunday on their phones. Okay, so people still watch Fox News and MSNBC ads for old people drugs. Other than that, TV ads are dead for reaching a young audience.

This is why all North American Brewers' new FMB products will be focused on Instagram. And why A-B's Swish Brands (Babe and White Girl Rose canned wines which are killing it on the East Coast we hear) are completely marketed via The Fat Jew and White Girl Problems' Instagram feeds. This isn't a trend, it's a new reality. The content comes before the brand, not the other way around.

The beer industry is slow to get this. Which is why we've invited a former Disney and Ford digital marketer to speak at our Beer Summit this year on what it means, how it affects brand marketing today, and what it means tomorrow.

FOR A-B DISTRIBUTORS ONLY. Unfortunately, A-B and I can't get our groove together (three years in a row) and they scheduled their distributor meeting at the same time as our Beer Summit. For you red distributors out there, if you can't come, this may be a great opportunity to send more junior sales or marketing execs from your company to get out of the office and get some fresh ideas to take back to the plant. If you do, I'll personally greet them at the opening reception with a special gift if you text me their names (210-772-0123). I hope to see them there. More details to come…..

Until tomorrow,

Harry, Jenn, and Jordan

"We judge ourselves by what we feel capable of doing, while others judge us by what we have already done." - Henry Wadsworth Longfellow

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BEER SUMMIT 2019 REGISTRATION OPEN. Join us for the 16th Annual Beer Industry Summit, January 27 - 28, 2019 at The Hotel del Coronado in San Diego, CA. Speakers TBA.

Register here: https://www.beernet.com/beer_summit.php

Or give Jessica a ring at 210-805-8006. Looking forward to seeing you there.

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