The Wax Report

Brown-Forman Corporation

This report is about Brown-Forman Corporation and covers the company’s fiscal year ended April 30, 2020. Listed earnings and metrics utilizing earnings, are for that specific 12 month time period unless otherwise noted. Unaudited or reviewed financial information is not apart of, nor included in, this report.

The company has two stock share classes. Class A shares are voting shares and Class B shares are non-voting shares. As such, Class B shares are far more widely traded than Class A shares.

What They Do
Brown-Forman primarily manufactures, distills, bottles, imports, exports, markets, and sells alcoholic beverages under the brand names Jack Daniels, Woodford Reserve, Old Forester, Early Times, Canadian Mist, GlenDronach Single Malt, BenRiach Single Malt, Glenglassaugh Single Malt, Slane Irish Whiskey, Coopers’ Craft Kentucky Bourbon, Finlandia Vodkas, Korbel California Champagnes, Chambord LiqueurKorbel California Brandy, el Jimador Tequila, Herradura Tequila, Pepe Lopez Tequila Antiguo Tequila, Sonoma-Cutrer California Wines, and Fords Gin. Industry peers include Diageo Beverage Company (OTCMKTS: DGEAF) and Heaven Hill Brands (private).

Short-Term Target
My current short-term target for the stock is $80.41 with an initial trailing stop set at $74.92. Based on a recent price of $76.06, upward price movement will find resistance at $77.88 and again at $79.53, with final resistance found at $81.32. Downward price movement will find support at $72.00 and again at $69.72, with final support found at $67.58.

One-Year Growth Price Target
My one year growth price target is actually a price target range, determined by adding year over year earning growth to the prior year annual dividend yield and dividing the result by the current annual price to earnings ratio.

For this stock, my current one year growth price target range is $76-$86.

Volatility Adjustment
There are different metrics available to help investors determine the volatility of a particular stock as compared to the volatility of the market as a whole. To me, the beta ratio is the metric that is the most representative of a stock’s volatility. A beta ratio of less than 1 means that the security’s price will be less volatile than the market, while a beta ratio greater than 1 indicates that the security’s price will be more volatile than the market.

Basis my current beta ratio for this stock of 0.82, my volatility adjustment to recent pricing is $17 per share, making my current volatility adjusted price $93.

Quality of Earnings
A company’s earnings can be impacted by a variety of sources unrelated to the company’s current day to day operations. Discontinued operations, tax refunds, depreciation, and impairment for example, may distort a company’s operating income and consequently its fair value. Investors should always explore the sources of a company’s operating income to better understand potential valuation impacts.

Of the company’s $1.73 in fiscal 2020 per share earnings, $0.00 came from some combination of other sources, income taxes, interest, minority interests, or discontinued operations.

Key Performance Indicator Rating
I use key performance indicators (KPIs) as a barometer to measure the effectiveness of management. Several of the metrics that I use are the tangible asset ratio, return on invested capital, free cash flow growth, earnings growth, debt growth, the dividend payout ratio, and the cash conversion cycle. Admittedly, my use of these and other metrics as a way to determine the effectiveness of management is subjective. Based on a 0-105 scale, my KPI for this company is 61.

Annual Shareholder Return
I calculate annual shareholder return by subtracting the stock price at the close of business on the last day of a company’s fiscal year, from the stock price at the start of business on the first day of the company’s fiscal year, plus any dividends paid during that period, and then dividing the result by the opening stock price on the first day of a company’s fiscal year.

For fiscal 2020, the company spent $0.00 per share buying back company stock, paid a common stock dividend of $0.68 per share, and had year-over-year annual price appreciation of $10.76, which created a year-over-year annual shareholder return of 21%.

Over the prior five year period, the company spent an average of $1.35 per share buying back company stock, paid an average annual common stock dividend of $1.11 per share, and had average annual price appreciation of $3.56, which created an average annual shareholder return of 13%.

Cost of Common Equity
The cost of common equity is the minimum annual rate of return an investor should expect to earn when investing in shares of a particular company. I calculate this by adding the thirty-year treasury yield to the beta ratio for the stock multiplied by my default equity risk premium.

My cost of common equity for this stock is 4.34%.

Acquisitions Expenditures
During fiscal 2020, the company spent $22 million acquiring businesses, a 100% year over year increase. Over the past five years, the company has spent $307 million acquiring businesses.

The Year-Over-Year Numbers
There are many year-over-year numbers for investors to focus on. But to me, there are only a handful that have any significant meaning, and so those are the numbers that I highlight in this space. Please remember these are year-over-year numbers.

For fiscal 2020, revenue increased 1%, earnings decreased 3%, free cash flow decreased 3%, and debt decreased by 7%. Additionally, the company’s annual operating rate, which I calculate by adding operating expenses to the cost of goods sold and dividing the result by net sales, was 77.

Current Price Ratios
Investing requires effort. Value investing requires patience. Stock prices require consideration. As a way to screen a company to determine if it is worth my effort, patience and consideration, I use several price comparison ratios.

For this company, my Price to Earnings Ratio is 44, my Price to Book Ratio is 18, my Price to Tangible Book Value is 62, my Price to Debt Ratio is 14, my Price to Free Cash Flow Ratio is 67, and my Return on Invested Capital is 26%.

Risk/Reward Ratio
I determine my risk reward ratio by subtracting my current terminate target from a recent price and then dividing that result by my initiate target less a price fluctuation variable of 20%. What I am looking for with this ratio is a value of 5 or greater. My risk/reward ratio for this stock is (6).

Prior Five Year Averages
My average valuation for the prior five year fiscal period was $42. The stock price during that time period averaged $45, earnings averaged $2.25 per share, and the average PE Ratio was 20.

Fair Value Investing
It is important to remember that the current market price of an equity is the price negotiated between a willing buyer and a willing seller. This market price is not the fair value of the associated company, but the negotiated price of a single equity trade.

The basic investing tenet for a fair value investor is price determines return. As such it is important to have some understanding of the value of the company as an on-going concern, and to develop a strategy that, with current value in mind, will allow investment in that company at some reasonable discount to current pricing.

My most recent fair value estimate for the stock of this company as an on-going concern is $31. This estimated fair value forms the basis for my target prices as shown on my worksheet.

Brown-Forman Corporation (NYSE: BF.B) – FYE 04/2020 – OVER VALUED – The stock is currently trading at levels above my most recent $49 terminate target. Please See Linked PDF Worksheet.

My Disclaimer
I am a long-term, buy and hold investor, practicing a value investing philosophy. I am not a licensed or registered investment professional. I currently have NO investment position in the company mentioned in this report. Financial statement data was obtained from the company’s most recent Annual Report on Form 10-K.

Past and future gains contained herein are based on actual and anticipated earnings, actual and anticipated dividends, and actual and anticipated price appreciation. Valuations, while given as a specific amount, are always within a valuation range. Investors should be aware that any investment has the potential for loss, and past performance is no guarantee of future results.

Thanx for reading.

Revised on 01/08/2021