Now Is the Time to Buy This Mexican Underdog

Fomento Económico Mexicano, S.A.B. de C.V. (FMX), the Mexican-based holding company better known as FEMSA, announced on Feb. 15 that it was selling its 14.76% stake in Dutch beer giant Heineken (HEINY).

The move comes after an extensive strategic review of its businesses in 2022. Everything was on the table. Ultimately, management and the board decided that it should focus on its core business verticals. 

That left its passive investment in Heineken on the outside looking in. So it will divest its stake over the next 24 to 36 months. The first tranche will be the sale of $3.7 billion in Heineken common shares and unsecured notes to institutional investors. The initial sale is approximately 41% of its stake in the beer behemoth. 

As part of the deal, the Heineken family, who control slightly more than 50%, will buy $1.06 billion of the $7.7 billion FEMSA is expected to generate from the share sales.

If you’re a Heineken shareholder, this is excellent news because it solidifies the family’s hold on the business, providing long-term stability for the company and its employees. 

As for FEMSA, the sale gives the company the capital to do something it’s wanted to do for a long time. But, despite its stock gaining nearly 20% year-to-date, I believe this is only the beginning. Here’s why. 

America, Here We Come

RetailDive reported that one of the company's big plans is to expand its Oxxo convenience store footprint in the U.S. It currently has one lonely store in Laredo, Texas, along the Mexican border. 

It’s wanted to expand into the American convenience store market since 2014 but has been hindered by conflicts of interest and regulatory restrictions. At the time of its Texas pilot in 2014, the company committed $800 million to the pilot. Unfortunately, it never spent most of these funds. 

Investors can expect that FEMSA will open new U.S. stores over the next few years through new store development and the acquisition and rebranding of existing locations in states bordering Mexico, such as Texas, Arizona, and California. 

According to Statista, Texas and California are the top two states for convenience stores, with 16,018 and 12,000, respectively, in 2022. In addition, the National Association of Convenience Stores data estimates that more than 60% of convenience stores across the U.S. have single-location operations. 

So, if it wants locations, it will take a while to cobble together any scale. However, it has said that it will work with third parties owning gas stations to reduce its exposure to fuel prices. 

It’s a work in progress.

It’s Got Money and Time 

With the first tranche selling quickly, FEMSA might get its hands on the estimated $7.7 billion in gross proceeds sooner than the 24-36 months time frame cited by the company.

If you’re unfamiliar with FEMSA, the passive Heineken stake accounted for 13% of its 2022 revenue. The significant contributor in the past year was FEMSA Retail (58% of sales and 49% of operating income) -- the division operates more than 30,000 convenience stores in 10 countries under Oxxo and several other banners, as well as 3,862 pharmacies in Mexico, Chile, Colombia, and Ecuador -- while 47.2% owned Coca-Cola FEMSA (KOF) contributes 15% of revenue. The remaining 14% are in businesses it will sell off, including  Envoy Solutions, its logistics and distribution operations.

When all the divestitures are completed, the business will consist of just two segments: FEMSA Retail (79% of sales) and Coca-Cola FEMSA (21%). Both will become more digitally savvy through FEMSA Digital and its Spin digital wallet.

As of Sept. 30, 2022, the company had a trailing 12-month EBITDA, excluding Coca-Cola FEMSA, of $2.34 billion. Its net debt was approximately $4.85 billion, 2.1x EBITDA. Its goal is to keep its net debt at 2.0x EBITDA or less while growing its retail footprint in Mexico, South America, and the U.S.

Theoretically, if it wanted to, it could eliminate its debt while still keeping a large amount of cash on its balance sheet. 

It’s a good problem to have.

Why Buy FMX?

Any time a company can simplify its business structure and operating model, it’s a winning move. So selling its stake in Heineken is a no-brainer. 

If you look at FMX’s five-year chart, it’s clear it’s never gained enough momentum to stay above $100. As it moves closer to triple digits, there will be significant resistance. 

The last time it traded above $100 for any meaningful amount of time -- the only time in its history as an NYSE-listed company -- was in April 2013. That was three years after Heineken bought FEMSA’s Cuauhtémoc-Moctezuma beer business in 2010, exchanging 100% of a larger Mexican brewer for 20% of a global one.

The promise of the Heineken passive investment has yet to materialize. Instead, the moves announced in recent days are an admission by the company that it has much better uses for the $7.7 billion. 

I like the move into the U.S. market. If it can make money from Mexico and other Latin American markets, think how well it could do in America.

Currently valued at 10.5x its trailing 12-month free cash flow of $2.9 billion, I consider anything below 12.5x to be in value territory. 

FMX is a better buy without the Heineken stake.             

 

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On the date of publication, Will Ashworth did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.