Carlsberg has plunged, but did the market overreact?

Carlsberg has plunged, but did the market overreact?

Carlsberg has suffered something of a mauling this week, its share price having fallen off a cliff following disappointing half-year results in Russia. Here, just-drinks looks at the market reaction.

"Probably the worst day of trading in the world?" Someone was always going to use Carlsberg's own slogan against it this week, and the UK's Guardian newspaper dutifully did the honours. However, it's not so much the poor results - although a 26% drop in net profits is bad enough - but the 'shock' that has nobbled Carlsberg.

Within hours of the half-year results announcement, the brewer's shares plummeted by 18%, and they have kept on falling. Before the results, there were noises among analysts that Carlbserg was "looking cheap", but hardly anyone seemed prepared to listen to the brewer slice its full-year profits guidance in half. Right up until the last moment, we had been led to believe that Russia was on the mend.

We now know that this is not the case.

"Carlsberg shareholders should pour themselves a stiff drink," wrote the Wall Street Journal's Renee Schultes, who gloomily predicted that a planned ban on television advertising will make Russia's beer market even worse in 2012 than it is today. "That calls for a vodka," perhaps?

Of course, it would be too easy - and too fun - to churn out a list of all the imaginatively-crafted put-downs levelled at Carlsberg in the past few days. Sure, the results were bad - operating profit margins in Eastern Europe were around nine times worse than anticipated by some analysts - but has the red mist become so dense as to cloud common sense?

"We are lowering earnings per share estimates by approx 10%," said analyst group Sanford Bernstein. "However, we believe the market has overreacted, with the stock down approx 25% relative in the last week." 

Morningstar analyst Phil Gorham trimmed profits expectations for Carlsberg over the medium-term. "We believe Carlsberg's weakness in Russia could extend into 2012 and beyond if the company expands its discount brand offerings at the expense of premium brands," he said in a note.

That said, Gorham also noted that he believes Russia's beer market "will stabilise" beyond 2011. "The market has mispriced Carlsberg several times over the last few years, and with the stock down 40% from its peak in June 2011, we believe the current valuation offers an attractive entry point for investors willing to ride out the troubles in Russia."

Analysts at MF Global, meanwhile, also found some reasons to be charitable. "We continue to believe that improving macro conditions and a pre-election spending boost will lead to improving consumption trends in Russia in 2H11," they said following Carlsberg's announcement. "We also highlight that Carlsberg will benefit from significantly lower raw material costs from Q4 2011."    

In terms of judgement, it doesn't look great for Carlsberg's senior management, who, as recently as May this year, were predicting that Russia's beer market would expand by up to 4% in volume in 2011. In the six months to the end of June, the market actually shrank by 1% and Carlsberg, having polished its crystal ball, said this week that it does not expect the market to grow for the full-year.

To be fair, Carlsberg isn't the first organisation to be wrongfooted by Russia, and it's unlikely to be the last. Carlsberg CEO Jørgen Buhl Rasmussen, quite naturally, is still confident over the longer-term. ""I'm still confident that consumers will move away from high alcoholic products to low alcoholic products, such as beer," he told analysts on the group's results call this week.

He would say that, though, wouldn't he? Eastern Europe accounts for 40% of Carlsberg's profits and most of that is due to its ownership of Russia's leading brewer, Baltika Breweries. However, that's not to say that he won't be proved right in the end.

For us here at just-drinks, the nub of the issue is this: It's clear that the brewer is too reliant on Russia, a market that has too often proved too volatile to be dependable. With Carlsberg's Asia business really still in its infancy, the next two years or so are going to be a tough ride - in an easterly direction, I'll wager - for the group.