AB InBev Has Options To Resolve DOJ's Antitrust Lawsuit

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Anheuser-Bush InBev (NYSE: BUD) has options to resolve the antitrust lawsuit filed by the United States Department of Justice (DOJ) and obtain approval for its proposed merger witf Grupo Modelo (NASDAQOTH: GPMCY), the maker of Corona beers for $20.1 billion. Many believed that selling a brewery is a compelling solution to resolve the antitrust concerns of the agency.

In its complaint, the Justice Department argued that the AB InBev’s proposal to takeover Grupo Modelo is harmful to consumers, and it violates antitrust laws because it would eliminate the “substantial head-to-head competition,” which could result to price increases, and reduce new product innovation and product variety. According to the agency, the lawsuit aims to prevent AB InBev from removing Grupo Modelo as a significant competitor in the beer industry in the United States. 

AB InBev holds 39 percent of the market share in the United States while its competitors, including MillerCoors, a joint venture between SABMiller (NASDAQOTH: SBMRY) and Molson Coors Brewing Company (NYSE: TAP) holds 26%. Meanwhile Heineken USA holds 6%, Grupo Modelo enjoys 7%, and a collection of other brewing companies represent about 22%. If the merger gets the approval from the U.S. government, the combined companies of AB InBev and Grupo Modelo will capture 46 percent of total market share in the country. The DOJ pointed out that Grupo Modelo is a strong competitor although it only accounts 7% in the U.S. market. It can influence AB InBev, and MillerCoors to lower the prices of their products and improve the quality of their beers.

AB InBev addressed the issue on competition in its proposal through a separate agreement. Grupo Modelo agreed to sell its 50 percent stake in Crowm Imports to Constellation Brands (NYSE: STZ) for $1.85 billion. The DOJ considered it inadequate despite the fact that Constellation will gain 100% ownership of Crown Imports. The agency emphasized that the management of Constellation  “sought to follow the pricing lead” of AB InBev.  There is no guarantee that it will counter AB InBev pricing in the future because it remains an importer of Corona beers, and it has the right to buyback 100% percent of Crown even after 10 years under its agreement.  At present, Constellation is the exclusive importer of Modelo Brands in the United States.

Given the fact, it is unlikely for the transaction to obtain the approval of U.S. regulators. The DOJ has a strong argument against the merger. AB InBev could ask Grupo Modelo to remove the right to repurchase 100% of Crown after 10 years in its proposed agreement with Constellation. This might convince the Justice Department that it is has no plan to control the pricing of beer in the market.

A persuasive resolution is necessary to settle the antitrust lawsuit. Many opined that the sale of a brewery particularly Grupo Modelo's Piedras Negras bottling plant is the best option. Is it necessary for the company to sell its newest bottling plant to solve DOJ's competition concerns? The answer is no. Grupo Modelo has seven other bottling plants, and AB InBev can choose any of the plants. 

<img src="/media/images/user_15059/modelo-brewery_large.JPG" />
Source: Grupo Modelo Data

Piedras Negras is the newest bottling plant of Grupo Modelo with 10 mn HL production capacity. AB InBev and Grupo Modelo will definitely not be willing to sell the plant. People familiar with the issue believe that the idea is a deal breaker. Piedras Negras is important for the company because its accounts for 70 percent of Grupo Modelo's exports volume of Corona beers in the United States. In addition, the company has an ongoing plan to expand its production capacity to 30 mn HL, which is scheduled to be completed this year. The supply will be exported across North America and European markets.

I believe AB InBev would be willing to sell any of the bottling plants of Grupo Modelo to keep its merger agreement except Piedras Negras. The combined company would generate an estimated annual revenue of $46.8 billion and $18.1 billion in EBITDA. The transaction could provide approximately $600 million in cost synergies annually. Grupo Modelo is the number one beer exporter in Mexico, which is the fourth largest profit pool for the beer industry representing $1.7 billion. Mexico is the largest beer exporter globally with ~21 million HL. Grupo Modelo accounts ~17 million HL of Mexico’s beer exports around the world. 

<img src="/media/images/user_15059/grupo-modelo_large.JPG" />

Source: Anheuser-Bush InBev Presentation

Grupo Modelo's Corona brand is the leading imported beer in 38 countries, and marketed in 180 countries worldwide. Corona Extra & Corona Light accounts 75 percent of Grupo Modelo’s total global beer exports.

<img src="/media/images/user_15059/modelo-export-brands_large.JPG" />

Source: Anheuser-Bush InBev Presentation

The stock price of AB InBev and Grupo Modelo plunged the day after the DOJ blocked the merger. As of this writing the shares of both companies regained their value. 

Grupo Modelo is expected to announce the distribution of dividends in accordance with its FCF generation in 2012, based on the merger agreement. According to analysts from Credit Suisse, AB InBev could put off the distribution of dividends if it decides to sell a brewery. The announcement is scheduled during the company's upcoming shareholders meeting.

The merger is highly beneficial for AB InBev and Grupo Modelo, and would try to find a solution to get the approval of U.S regulators instead of walking out of it. AB InBev stated its willingness to defend the merger and fight DOJ's lawsuit. The company could argue that there are 2,126 breweries operating in the United States as of July 1, 2012, based on data from the Brewers Association.

MarieCabural has no position in any stocks mentioned. The Motley Fool recommends Molson Coors Brewing Company. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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