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This Bud's For Warren


Investors usually salivate over a stock when they hear that Warren Buffett's Berkshire Hathaway Inc. is buying. But Buffett's golden touch hasn't worked for the King of Beers. Since late 2004, roughly when Berkshire started loading up on shares of Anheuser-Busch Cos. (BUD), the stock has fallen around 15%.

It's easy to understand why investors haven't had much of a thirst for Budweiser. Beer now represents less than 56% of the alcohol business, down from 60% a decade ago, according to industry publication Beer Marketer's Insights. And the aggressive marketing tactics of distant No. 2 Miller Brewing Co. have given the nation's top brewer a headache. AB's volume sales fell 1.8%, to 101.1 million barrels, in 2005, and Wall Street expects the company to announce an 11% earnings drop on Feb. 1, its first annual decline since 1995.

Contrarians like Buffett think AB, with its marketing muscle and dominant position, is a bargain. They might be right. The stock is cheaper than it has been in nearly a decade, changing hands for just 17.0 times trailing earnings, vs. a 10-year historical average of 21.6. The stock's traditional discount to the Standard & Poor's 500-stock index has grown from an average of 15% over the past 10 years to 23%.

Glenn H. Tongue, a managing partner with the private investment firm T2 Partners LLC, estimates the company's earnings per share will reach $3.50 within three years, up from analysts' consensus estimate of $2.39 for 2006. Assigning a multiple of 17 times those earnings, he figures the stock is worth closer to $60 than the $43 or so it fetches now. "If you look past short-term deviations, Bud has a compelling economic model with high returns on invested capital and free cash flow in excess of net income," says Tongue, who counts Bud among his top 10 holdings.

BUD BRAND POWER

Anheuser's cash flow is formidable. Its operations, fueled by a huge domestic business, throw off $2.7 billion a year. Anheuser has a history of using cash to reward investors with stock buybacks and dividends. It pays a dividend yield of 2.42%, vs. 1.87% for the Standard & Poor's 500. That and AB's buyback history are convincing some to wait around to see if Buffett's bet pays off.

What the doubters forget, say AB supporters, is the power of the Bud brand. AB's many products still account for 48.6% of U.S. beer sales, and some analysts see the company gaining market share in 2006. The next two competitors, Miller and Molson Coors Brewing Co. (TAP), have only a 29% share of the market combined. Anheuser's scale means it can demand loyalty from its exclusive distributors, who drive nearly 70% of Bud's sales. "The franchise and distribution network are extremely valuable, and they're not going to disappear," says Stephen M. Goddard, manager of New Market Fund, which has 3% of its assets in Anheuser. Recent price cuts and stronger promotional efforts in bars have helped stabilize sales. In the fourth quarter, AB increased shipments to wholesalers by 0.8% over the previous year, reversing a yearlong trend of declining sales. The uptick has some hoping that Anheuser has turned the corner.

Many investors view AB's ventures in fast-growing Latin America and China as a bonus. It owns 50% of Mexico's largest brewer, Grupo Modelo. And it recently hiked its stake in China's Tsingtao Brewery Co. from 9.9% to 27%. These businesses represent just 6% of revenues right now, but they position Bud in some of the hottest growth areas. China is the largest beer market in the world, and it's growing at 8% a year, compared with essentially no growth in the U.S. Such frothy prospects, say Bud bulls, give investors even more reason to belly up to the bar.

By Adrienne Carter


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