When researching companies, expect the unexpected.

PM Capital

As investors, we can get caught up with the new and snazzy. The world is definitely moving on at speed, but it’s generally technology that gets most of the attention. However, it’s not just the hardware that’s moving on. It’s also the belief systems of human beings that have to be considered when researching companies and where their future threats may be coming from.

Cannabis’s counter-culture roots lie a long way in the past, with significant (although hesitant) steps forward in its medical use. However, the idea of cannabis - in smoking, cookie or any other way of ingestion – as a mainstream, everyday, no surprise, kind of drug has been that one step further, given that it takes it closer to street usage which can still in a significant amount of the western world get users jailed.

The brewer Heineken (a small holding of ours but in the past a significant feature of our portfolios) is very cognisant of the threats that are coming its way. It told the National Beer Wholesalers Association conference in Las Vegas that its markets are under threat from wine and spirits and “marijuana is being legalised in many states. We have to act now, and we have to do it together.”

From a medical standpoint, 60% of the USA has some access to cannabis. Over 50% of the population is in favour of legalisation. Although only a few states have legalised cannabis for recreational use and it’s illegal at the federal level, urban states like California and Massachusetts are seriously considering making its use legal.

Broker Cowen concludes in a report this month that the next 12 months will bring rapid change and disruption, with alcohol and cannabis having significant overlap.

Some corporates are covering their bases. Constellation Brands (~US$40b mkt cap alcohol company) has just taken a 10% stage in the largest cannabis company in the world, Canopy Growth. Constellation Brands said that “…one of the hallmarks of our success over the years has been our commitment to identify and stay ahead of early stage consumer trends.”

What may be affected by broader cannabis use? What other industries? For example, might property trusts who hold pubs be affected by the decreasing relevance and power of having a government license to sell less desired (liquid) social drugs? These are the types of things worthy of consideration as active investors.

We have held brewers for the best part of 20 years. We have now virtually sold out, with a final vestige in Heineken remaining. We didn’t sell out because of the fears over cannabis, but because of changing market dynamics. Over the past 15 years there has been a plethora of takeovers, all of which have produced value for shareholders (and consequently our investors).

ABI has produced 15% compounded earnings growth rate over the past decade; Heineken high single digits. It will more difficult for global brewers to produce that kind of growth over the coming years, but relative and absolute valuations are at record highs.

The corporate dynamics in brewing have now changed. The waterfall of takeovers has produced a handful of big brands and the probability of further significant corporate activity at current valuations has lessened.

Of course, never say never with the brewers – other anomalies may arise that are worth our attention.

By Paul Moore, Chief Investment Officer

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