Brown-Forman Earnings: Margin Pressure Sticks, but Premium Portfolio Surprisingly Durable

Wide-moat Brown-Forman BF.B posted earnings in line with expectations, with $1.1 billion in sales and $0.21 in EPS beating FactSet consensus sales estimates of $1.02 billion but missing on profitability ($0.47). A measured pace of margin recapture remained front and center, with the combination of inflation, supply chain disruptions, and foreign exchange headwinds dragging gross margin down 170 basis points from the year-ago period to 58.4%. As we digest fiscal third-quarter results, we expect to lower our $73 fair value estimate by a low- to mid-single-digit percentage, with a tougher pricing environment and acquisition integration costs figuring to slow immediate-term margin normalization. Shares fell 3%-4% intraday, leaving them trading in a range we’d consider fairly valued.

The firm booked a $96 million impairment charge on its Finlandia vodka brand, which represents its most direct exposure to the Russian market. That’s the second impairment the firm has taken against that brand over the past year, which represents just a low-single-digit percentage of sales. While the impairment skewed results, adjusted operating income still declined 11% from the year-ago period in the quarter, with marketing investments, integration costs, and ongoing sourcing pressures preventing margin leverage despite 8% organic sales growth over the past nine months.

Though flagging profitability is understandably frustrating for investors, we view inflation in select inputs (glass, agave, wheat) and lofty freight charges as ephemeral and continue to pencil in meaningful margin expansion over the next half a decade—to 35% operating margin in 2027, from 29% forecast, excluding charges, in 2023. More importantly, in our view, Brown-Forman’s premium portfolio of bourbons, whiskeys, gin, rum, tequilas, and ready-to-drink beverages has generated durable top-line growth despite price increases and consumer pressure, suggesting to us that the firm’s wide moat remains intact.