Shortage.....from another angle...
Global Consumer Correction:
Tightening Wine Cycle to Drive Luxury Wine Profits Global wine authority OIV is reporting an 8% reduction in 2017 global wine production based on Italy (-23%), France (19%) and Spain (-15%). We believe that a further tightening of the wine cycle should strengthen pricing power for branded/luxury wine players (TWE / STZ). Exceptional weather events reduces EU wine production by 15% in 2017: The EU's three largest wine producers (Italy, France and Spain), which collectively produce 50% of wine globally, including a significant portion of luxury wine are set to have a significantly smaller crop in 2017. The combination of frost and droughts have reduced yields. In the EU, area under vine has reduced by 16% since 2006 which has added to the supply shortage. For background on the global wine industry, please see The Global Wine Industry: Slowly moving from balance to shortage (22 Oct 2013).
Why is this important?
Lower production and the reduced quality of grapes likely means an even greater reduction in the amount of luxury wine that is produced. Since luxury wine is already scarce, it affords luxury wine producers greater pricing power and ultimately higher margins and profitability. We think weak EU production is especially timely since demand from China is strong currently, especially in the luxury wine market.
Who are the beneficiaries?
TWE: We estimate that TWE generates c.50% of earnings from its luxury wine portfolio of which it owns or leases over 50% (Australia 41%, US 67%, New Zealand 86% and Italy 100%) - hence we think TWE is a direct beneficiary of the tighter cycle. Pressure on its commercial portfolio will be more than offset by growth in its luxury portfolio, in our view. TWE is the No. 2 (behind LVMH) exporter by value to the Chinese market. Treasury Wine Estates: TWE's Stars Are Aligning (22 Oct 2017).
STZ: STZ sources less than 5% of its wine business from Europe, and is thus mostly immune to any grape supply or grape pricing pressure from lower EU yields, but should benefit from a competitive standpoint, with 15-20% of US wine industry volume coming from European wines (which is ~50% of imported volume into the US), which will likely be pressured both in terms of supply and pricing, benefiting STZ competitively. We expect this situation will augment STZ's already pronounced turnaround in market share results with momentum in its high-end (and high margin) focus brands, and could further improve US wine industry pricing, providing a greater category halo for STZ.
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