Dear Client:

The analysts were (largely) wrong. The U.S. Department of Justice said Thursday morning that it will sue to block AB InBev's $20.1 billion purchase of Grupo Modelo.

The deal would "substantially lessen competition in the market for beer in the United States as a whole and in 26 metropolitan areas across the United States, resulting in consumers paying more for beer and having fewer new products from which to choose."

"The department is taking this action to stop a merger between major beer brewers because it would result in less competition and higher beer prices for American consumers," said Bill Baer, Assistant Attorney Genera in charge of the DOJ's Antitrust Division. "If ABI fully owned and controlled Modelo, ABI would be able to increase beer prices for American consumers. This lawsuit seeks to prevent ABI from eliminating Modelo as an important competitive force in the beer industry."

The complaint also said that the US beer market is already "highly concentrated, and prices are increased by strategic interactions among the largest brewers, including ABI and MillerCoors. ABI generally acts as the price leader, implementing annual price increases in the sub-premium, premium and premium plus segments of the U.S. beer industry. MillerCoors and other brewers have typically joined the ABI price increases, while Modelo has not. By pricing aggressively, Modelo-through its importer, Crown Imports-puts pressure on ABI to maintain or lower prices, especially in certain parts of the country. As a result, Modelo has become a particularly important competitor in the U.S. market."

The complaint also discusses ABI's efforts to target Corona. ABI considered Corona to be a significant threat, and launched Bud Light Lime in 2008 to compete with Corona. ABI went as far as to mimic Corona's distinctive clear bottle. Ultimately, instead of trying to compete head-to-head with its own product, Bud Light Lime, ABI is thwarting competition by buying Modelo.

The complaint also states that the combined effect of the proposed acquisition of Modelo and the proposed fix is to eliminate from the marketplace a sophisticated brewing firm with a long history of success and replace it with an importer which will own no brands or brewing facilities and be totally dependent on ABI for its supply of Corona and other Modelo brands. The documents in the case show that as Crown's CEO wrote to his employees after the acquisition was announced: "our #1 competitor will now be our is not currently or will not, going forward, be 'business as usual.'" The department's complaint said that not only will competition be harmed by the loss of Modelo as a competitor, but by removing an independent brewer-Modelo-from the market, strategically coordinated pricing will become easier in the future.

The suit was filed in federal court in Washington, DC.

ABI Shares are down 6.5%.

UPDATE: ABI Responds to DOJ Action: Deal Won't Close in Q1

AB InBev has released a statement in response to the news that the DOJ has moved to block the proposed acquisition of Modelo:

"The U.S. Department of Justice's action seeking to block the proposed combination between AB InBev and Grupo Modelo is inconsistent with the law, the facts and the reality of the market place. On 29 June 2012, the companies announced an agreement under which AB InBev will acquire the remaining stake in Grupo Modelo that it does not already own. We remain confident in our position, and we intend to vigorously contest the DOJ's action in federal court. Given today's development, we no longer expect the deal to close during the first quarter of 2013. We will comment further once we have reviewed the DOJ filing."

So ABI is going to fight this. Can they win?

COMMENTARY: What was strange about this deal all along is that you had the analysts so adamant (or was it wishful thinking?) that the deal would close without many concessions in the first quarter, and you had both ABI's and Constellation's investor relations teams egging them on; and then on the other side you had this advocacy community and ex-antitrust attorneys signalling that the deal was in big trouble. Plus you had the craft brewers and other brewers and distributors working behind the scenes against the deal as well. It turns out the DOJ is more of an active consumer watchdog than many in the financial community thought.

Constellation's stock has incidentally tanked 25% before they stopped trading on it earlier today.

WHAT'S NEXT? A messy lawsuit. There will be briefs, there will be experts, there will be a lot of analysis of competition and pricing in specific markets. Can ABI win? "Much will depend on the kind of judge they have," said one legal expert. "It's hard to handicap without knowing what strategy each side with stake out."

INCIDENTALLY, at this week's Beer Summit, former FEMSA executive Luis Duran predicted that the DOJ would sue, but he also predicted that ABI would win the suit handily. It will be interesting to watch.


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