Craft Beer Drinkers Leave Boston Beer Behind

Boston Beer Company (NYSE: SAM), once spearheading the craft beer movement, now seems to have lost its footing. With declining sales and a soon-to-depart CEO, the company has a lot to juggle in 2018 and beyond.

In this episode of Industry Focus: Consumer Goods, Vincent Shen and senior contributor Asit Sharma talk about how Boston Beer fell behind in the craft industry and what it might take to get back on track.

The team also looks at the very different news that came out of Weight Watchers (NYSE: WTW) and GoPro (NASDAQ: GPRO) this past week. While the former shows no signs of slowing down after a stellar 2017, the latter is ready to put itself on the chopping block.

A full transcript follows the video.

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This video was recorded on Jan. 9, 2018.

Vincent Shen: Welcome to Industry Focus, the podcast that dives into a different sector of the stock market every day. It's Tuesday, Jan. 9th, and I'm your host, Vincent Shen.

We have a packed agenda for the show today. First, you'll hear about some recent headline-grabbing news from Weight Watchers and GoPro before getting a deeper dive on Boston Beer Company and the weak return shareholders have had to endure there the past few years.

Joining me today via Skype from Raleigh, North Carolina, is senior contributor, Asit Sharma. Hey, Asit! This is your first appearance of 2018. Welcome back, buddy!

Asit Sharma: Thanks, man! It's great to be back! Listeners, it's great to be with you again. We're back in the saddle after a long, cold snap here on the East Coast. I'm looking forward to some better weather, and I'm so excited to be here today.

Shen: Yeah, absolutely. How's the new year treating you so far? I know you mentioned you're doing renovations and home improvement projects, holidays and everything, all that stuff go well for you?

Sharma: Yeah. I had this really ambitious agenda to balance family, great food, friends, and of course, we're working on the renovations. But most of that, the plan went out the window. We chilled a lot. Didn't get much accomplished. But it was a rejuvenating break. I'm ready to attack this new year in kind. How about yourself? You were dog sitting.

Shen: Yeah, and I miss the little guy. I miss him. We had him for a month. Though, I don't miss the late-night walks when it was 10 degrees outside. Sending him back to our friends, they had just gotten back from Taiwan, a trip abroad. I really miss being greeted so enthusiastically when I get home, because my wife is not so enthusiastic. [laughs]

Alright, onto our first topic for today. Regular Industry Focus listener should be familiar with the first company on our list, Weight Watchers. In the last week of 2017, we aired the first annual Industry Focus Awards -- definitely check out those episodes if you haven't heard them yet. From that award series, I successfully pitched and won the award for the most valuable player category thanks to my pitch for Weight Watchers and its brand ambassador and major shareholder, Oprah Winfrey.

Oprah and Weight Watchers launched their partnership in late 2015. She took a 10% stake in the company, she claimed a board seat, and has really gone on to become the face of Weight Watchers. Thanks to her fame and her influence with millions of consumers, you combine that with some of the broader strategic changes that the company has made, and Weight Watchers was one of the biggest gainers on the stock market in 2017, with shares pretty much quadrupling in value. Now, we're just over a week into 2018, and the bullish rally continues. Yesterday, the stock traded up over 12% thanks again to news regarding Oprah. Shares, I believe, are up another 4% to 5% before we got into the studio to start recording. So there's a lot of speculation here, admittedly. But what happened exactly, Asit?

Sharma: A couple of things happened since the new year. On the 2nd of January, shares were up 8%, because Weight Watchers announced that it has enlisted DJ Khaled as a brand ambassador. He has over eight million Twitter followers, so this is like oxygen for Weight Watchers' stock. This follows the model that Oprah developed, in which she tweets out her progress to her following, and subscribers jump, the stock jumps. It's by design an extremely effective way for Weight Watchers to combat its formerly stodgy image, and also repel the attacks that have come from a plethora of free apps that you can access now from your smartphone to your smartwatch to get into shape. What's been happening is, the confluence of influencers is really going to propel the stock further. Maybe we'll have to talk about the valuation. But these were the main events so far this year.

Shen: On the Oprah front, I think it's really tough to quantify but also separate the influence she's had on the strong results the company has enjoyed the past two years. A lot of people were talking about, for example, her acceptance speech, I think it was two nights ago now, at the Golden Globes. A lot of people were reading into this as hinting at a potential presidential run. I think that's behind a lot of the activity in the stock the past few days. And I've read through that transcript, and there's nothing in there that points directly to her starting a presidential run. But the fact that she offered up arguably the most notable moment of the night at that awards ceremony, and some other stories and hints that she might run in 2020, that's all positive PR for her, and then, by association, Weight Watchers, because of the partnership, it helps explain the 17% gain the stock has enjoyed so far just this week.

If we take a snapshot of the financial results, I always think it's interesting, you go back to the third quarter of 2015, call this the pre-Oprah period, revenue was at $273 million for that quarter, it was down 21% year-over-year. Then, you jump forward two years to the third quarter of 2017, the partnership is in full swing, revenue is at $324 million, up 15% year-over-year. Earnings per share are up over 70% over that two-year period. Active subscribers are up over 30%. Customers are sticking with Weight Watchers services for much longer.

So sometimes, I'm tempted to give my usual warning and caution regarding market noise, and how Foolish long-term investors should stay focused on the company's fundamentals, but I think it's tough to deny how unique the situation is. Asit, you mentioned influencers. Oprah is not on the core management team at Weight Watchers. She's not a chief executive of any kind. But the strength of her personal brand, and this new partnership with DJ Khaled, that has all undoubtedly contributed to the company's turnaround, strong results, and I think it's going to continue to play a pretty important part in Weight Watchers' future.

I was chatting with other Fools before coming into the studio about this. Do you know of any other examples of companies that have really benefited so handsomely from having the right spokesperson or brand ambassador? The only one I can really think of was Nike and Michael Jordan.

Sharma: Yes. And Oprah brings something a little different than Michael did. Michael brought us a sense of being like Mike. We wanted to replicate his success by wearing his shoes. But you have to go, in my opinion, all the way back to Joe DiMaggio and his endorsement of coffee products, to find such an influential brand ambassador. What Oprah has, it's slightly different than other influencers out there, it's credibility and trust. People really trust what she says. In fact, financial institutions see her as extremely credible. The stock popped when she announced her investment, and stepping up to endorse the brand, simply because Wall Street understands, she's always been a shrewd businesswoman, and she wouldn't have taken this gig had she not seen the potential.

So it wasn't just about marrying up a celebrity with a brand. Oprah has a track record of building successful businesses. She has a platform that crosses several types of media, and a huge following of people who really believe her and see her as credible in almost any endeavor she undertakes. And it really is hard to think of someone who has so much influence on this level of trust and credibility. Again, we can go back to products and talk about people like Steph Curry and Michael Jordan. That's a different type of product endorsement. I think this is unique. And I'm with you, I think she's actually impacting Weight Watchers in a good way, that she's lifting the subscriptions, she's lifting their paid revenue. And that's something an investor can put money behind. So I doubt the stock will replicate last year's success. You probably know this better than I do, Vince, but what, 250% just last year?

Shen: It was even more than that. I mentioned on the awards show, one of the biggest gainers on the market, hands-down. It blew the other Industry Focus cast members away, and I think it was what was able to get me that MVP win.

Sharma: Congratulations, by the way!

Shen: It was a great pitch, and honestly, the story for 2017 for this company so far is really incredible to follow.

Next up, we're going to turn our attention to GoPro. This is probably on the opposite end of the spectrum, as the company is really struggling. Recall that the GoPro IPO was at $24 per share back in December of 2014, giving the company a market cap of about $3 billion. About three and a half years later, the company has run into the same problems that plague a lot of hardware-focused consumer technology companies. Its first-mover advantage has pretty much evaporated with GoPro making action cameras in that category as popular as it is now. And while the company's brand and reputation in action cameras is still unmatched, GoPro tends to adopt a premium pricing strategy, and that has left them very vulnerable to lower price competing devices that have worked to pretty much commoditize the market, and also undercut GoPro's own sales.

They push for a platform-media play, but that never gained enough traction. Ultimately, we now have a stock that's trading at 75% below its IPO price. And there's other recent news that really dampened any enthusiasm for a turnaround for this company, at least in 2018. Asit, can you give us a rundown on some of these latest developments?

Sharma: Yesterday, the company pre-announced its quarter four 2017 numbers. It's expecting $340 million in revenue during that important holiday season. Just for comparison's sake, in Q4 of 2016, the company sold about $541 million worth of product. Go back to Q4 2015, $437 million worth of product. And Q4 of 2014, the year it went public, it sold $634 million. So one, you see a declining trend, and two -- and we'll talk about this in a second -- GoPro often botches its holiday quarter. Other stuff they announced yesterday which did not please investors: It's reducing its global workforce from about 1,250 people to under 1,000 employees. And CEO and founder Nicholas Woodman is going to take $1 in cash compensation in 2018 as part of this restructuring program.

The thing that really stuck out to me of all the bits and pieces they announced yesterday, that they're going to exit the aerial drone business. Listeners may be familiar with their Karma drone. That's an over $1,000 price point product. The company is citing regulatory pressure in the U.S. and Europe, which makes competing in that arena very difficult. I'm sort of skeptical about that. I think, actually, the cash burn that the company has been experiencing might have something to do with this strategic exit from that business. But that's the bulk of the damage they announced yesterday. It doesn't look good if you think about the fact that the stock has decreased by about 80% since its IPO in 2014. What are your thoughts on yesterday's announcement, Vince?

Shen: I think you hit the biggest items there, Asit, for sure. Something else that jumped out to me, for example, there were price cuts that GoPro needed to implement to improve sell through for some of their HERO cameras. And they mentioned that after price changes that they implemented, I believe on Dec. 10th, going into the holiday season, helped double or triple sell through for some of their devices. But that also brought their gross margin down to about 25%, down from the 40% or higher levels the company used to enjoy, so definitely a squeeze in the profitability there.

Otherwise, the big news is definitely around the Karma and their exit from the drone business -- the fact that Karma was supposed to be GoPro's next big thing, a way for them to expand into the drone market, pick up some new growth, and that product had an absolutely disastrous launch, with new users reporting that their Karma drones were falling out of the sky.

I was just talking to one of our other contributors, Steve Symington, about this before coming into the studio, the fact that the devices worked, fundamentally they were okau, but a flaw in the battery compartment allowed batteries to get disconnected, and the drones were losing power and falling out of the sky. And that's terrible press that absolutely killed any momentum the company had entering with this new product. Otherwise, reviews, generally middle of the road, maybe slightly positive, for the Karma. But again, it's at a higher-end price point. And the company is giving up here in a pretty costly, embarrassing two-year experiment.

Some other news has come through early this week. There were reports that GoPro has hired investment bankers to pursue a potential sale, and founder and CEO Nick Woodman told CNBC, "If there are opportunities for us to unite with a bigger parent company to scale GoPro even bigger, that is something we would look at." In the preliminary fourth quarter results, Woodman says the company could return to profitability and growth in the second half of 2018, but given that management whiffed so badly on its previous guidance, by over 25%, over $130 million for that fourth quarter holiday guidance, it's tough to take that optimistic view seriously, even with some of the lower expenses that they'll be able to enjoy thanks to the layoffs and some of their other initiatives. But final take on the company, or the stock, Asit?

Sharma: I'd just exercise caution. I think the company has a history of these operational missteps, and they have a history of botching fourth quarters, the holiday seasons. This is not the first time that GoPro has realized in the first or second week of December that they priced the product incorrectly to meet consumer demand. I always feel like the money they put in marketing dollars in December to try to entice people to buy these higher price points, $400 vs. $300, they should use that to absorb some price investment. The stock can grow profitably again -- those are the key words out of the CEO. But that's going to be slow growth and not a lot of profit. So be extremely cautious around these. Going to institutional investors is sort of the white flag of surrender being raised. It's not a value play, by any means. But monitor it this year. You never know what happens. Maybe by the second or third quarter, there might be some value in it for those adventurous investors out there.

Shen: Yeah. The big thing for me is, a lot of the headwinds, the obstacles that it's run into recently, all have very long-term implications. No more Karma, that kills one avenue in terms of the drone market for new growth. The price cuts on the HERO cameras, that points to potentially permanently reduced profitability going forward. And more and more competing products in their core space now. So despite the strength of the brand that GoPro has, I just don't know if that alone is going to be enough to overcome some of these challenges.

Asit, our last segment, Boston Beer Company, is on tap. I'm going to start this conversation with a bit of a juxtaposition of Boston Beer and the broader craft industry. For a time, Boston Beer was the face of the craft beer movement. And the Brewers Association even changed its definition for what qualifies as a craft brewer to accommodate Boston Beer's incredible growth.

But on the industry side, for the past five years, we've seen the number of craft brewers more than double to about 5,600. We've seen the volume share for craft beer approximately double to about 12% to 13%. Its share of beer sales is almost 25% by dollar value. And by most metrics, craft beer is still an area of strength for the overall beer industry. Then, if we turn our attention to Boston Beer, in the past five years, the stock has trailed the broad market, with less than half of the return of the S&P 500. Sales declined in full-year 2016 and will likely go down again in 2017. Depletions, which are the sales from distributors to retailers, are down mid-single digits in 2017. Results for the company have definitely hit a wall, and they're trending downward. CEO Martin Roper, he's leaving this year, and the search for his replacement has been going on for some time now, has yet to be finalized. There's lots of uncertainty here. What's your take on the situation, Asit?

Sharma: This company, great company, Boston Beer is a traditional craft beer, a pioneer in the industry. I am 40-something, let's say -- it's the new year, I don't want to give too much away here. But I can remember in college, when it was "the" craft beer. This is the part of the universal comment that you just made, that for a while, everyone identified Boston Beer as "the" craft beer company. And I think what we're seeing is this huge fragmentation, not just in the craft side of the industry but the beer industry as well, as we go for beers that have flavor, beers that are super light, beers that delve into the craft space, beers of a particular geographic focus, like Constellation Brands' Mexican beers, that we've talked about on this show. There's so much fragmentation that it becomes hard to get volume growth and depletion growth. Depletion growth, to remind listeners, is the measurement of beer leaving a distributor's warehouse versus when the manufacturer sells it to the distributor.

I think the big problem that's plagued Boston Beer Company over the last five years is, it has identified itself as the craft industry, but that industry has changed underneath it. I don't know if any of our listeners read French philosopher Montaigne, sort of meaty essays to read, but everyone should read these. The common thread running through each of these essays is, this philosopher is always trying to suss out his place in the world -- where he's going, where he's been. He understands that his identity is always changing. The sin, perhaps, that Boston Beer committed was not acquiring some of these small, rapidly growing craft breweries. Constellation Brands, of course, bought Funky Buddha Company, it bought Ballast Beer Company. But Boston Beer's capital allocation has remained consistent. It's invested in itself. And I think that some millennial consumers may perceive the brand as a bit tired, and maybe their dad's idea of craft beer. What are your thoughts on these issues?

Shen: I talked to my friend about this company not long ago. He's a self-proclaimed beer connoisseur. And he brought up some interesting points to me. I'm not as big of a craft beer fan as he is. When we were talking about Boston Beer, his main points were: 1) Sam Adams doesn't have the cachet and prestige that it used to, like you mentioned, Asit, now that there are thousands of these small, hip, regional brewers and new labels they have to compete with; 2) there's so many different varieties, too, of Samuel Adams, that the company has released hoping to rejuvenate some of the growth and stir up results for the company, but it's not working. I think it adds to the complexity of their operations, and probably their cost, too.

The company is working to manage expenses, but I don't think growth is going to come from a turnaround of the core Samuel Adams brand at this point. Management is going to have to make some pretty tough choices in the next year in 2018, between their new CEO on the leadership side, and then, as you mentioned, ponying up for potential acquisitions, and there's even been some rumors of the company eventually putting itself up for sale. Do you think, Asit, that following in the footsteps now, in terms of, how the megabrewers acquired some of the more fast-growing, popular craft brewers, to get a piece of that trend, do you think for Boston Beer to take on that strategy now, you know there's been a lot of crazy price tags for these acquisitions -- is that the right play? Do you think that's really their only option at this point, that if they're looking to actually grow the company, they have to look outside of their own operations?

Sharma: I think they should really consider acquisitions. It seems crazy. We've talked about Ballast Point Beer, a small craft brewery out on the West Coast being acquired for $1 billion by Constellation Brands. So there are valuations that are ridiculous for the very strongest of the craft breweries. But for a management team that's willing to poke around and then scale up a smaller brewery through a Boston Beer distribution system, I think it makes sense, and I think it's their only choice.

A very interesting article by one of our Fool contributors who I consider to be a guru on beer, Rich Duprey, I've spoken about him before on this show, but listeners, if you want to follow someone who knows his beer, Rich Duprey, follow his articles. He wrote earlier last year that, if you look at the way that Samuel Adams, Boston Beer Company, has allocated its excess cash, it's bought back its own shares at high prices, and the stock has really flatlined over the last couple of years. So instead of putting $200 to $300 million to work and buying a smaller brewery, it's chosen to invest in itself. And I'm not saying that's a bad thing. But that capital allocation has to change in the coming years. Management, the new management that comes in, the new CEO, which we'll find out some time this year, is going to have to go around and find out which companies, hopefully close to the regional headquarters, that it can purchase and scale up. And it needs to experiment with this.

On the plus side, Samuel Adams, as a brand, is still a very strong brand. And I agree with you, Vince. If they could cull some of these varieties that would see, I think they could get a better return on their marketing investment. Also, they've seen some of their brands, like Truly Spiked and Sparkling and Twisted Tea, those have grown in the last year, whereas the total volume growth for Samuel Adams has been about negative 4%. So it has some growth areas. Shift the money. Invest in what's growing. Simplify, as you pointed out. And I think, beat the bushes, find those small breweries, invest in them, and look to the future.

Shen: Alright, thank you, Asit! I think that's a good summation of our thoughts for this company, and what they need to hopefully right the ship, turn things back around in the year ahead. That's about all the time we have today. Any other final thoughts from you? Otherwise, we'll close out for the day.

Sharma: Sure. Viewers, as far as beer is concerned, also look at Molson Coors. Slow growth, but perhaps some opportunity there. And we always talk about Constellation Brands. It's still a great buy. Everyone have a great new year! I hope it goes well.

Shen: Alright. Thank you, Asit! And thank you, Fools, for tuning in! Austin Morgan is our producer. As always, people on the program may own companies discussed on the show, and The Motley Fool may have formal recommendations for or against stocks mentioned, so don't buy or sell anything based solely on what you hear during the program. Fool on!

Asit Sharma has no position in any of the stocks mentioned. Vincent Shen has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Boston Beer, GoPro, Nike, and Twitter. The Motley Fool has a disclosure policy.