USA: Boston Beer brewery must choose between building an expensive new brewery or to consider the buyout possibility

As the largest of the small U.S. craft brewers who make beer with high malt content, Boston Beer and its Samuel Adams brands have reaped the benefits of the rising popularity of specialty beers, The Boston Globe posted October 19. The company's share price has surged roughly 80 percent from a 2-year low of $19.86 in May 2005.

This growth and high valuation may soon be at risk, however, as the brewer decides whether to build an expensive new brewery, whether to listen to potential suitors, and how to respond to the rising number of competitive specialty beers.

A sale would likely boost the company's stock - which reached a new peak of $36.10 on October 18 - but is seen as unlikely. Building a new brewery, which is seen as more plausible, could pressure the shares, industry watchers say.

In a note accompanying its downgrade on the stock to "hold" from "buy" last month, Deutsche Bank said Boston Beer remains a growth story, but current valuation is full and only an acquisition by a larger company could justify a considerably higher share price. Bank of America, meanwhile, maintains a "neutral" rating at current levels, saying the cost of a new brewery costs limits the possible gains.

Boston Beer's recent price-to-earnings ratio was 29.13, compared with Anheuser-Busch Cos.' 19.62 and Molson Coors Brewing Co.'s 18.09. The relatively high ratio and a rising stock price reflect, in part, the craft growth story and Boston Beer's leading role.

"The craft segment continues to gain in strength as year-over-year share gains have grown despite difficult compares," Morgan Stanley said in a note to investors last week. For example, crafts gained 0.60 percentage point of share in supermarkets during the week of October 01, compared to last year, while Anheuser-Busch lost 0.70 percentage point.

In total, the craft category has 3.5 percent of the more than $70 billion U.S. beer market, but of that small percentage Boston Beer has 19 percent market share, according to Beer Marketer's Insights, a trade publication.

Boston Beer's sales to retailers, an approximation of consumer consumption, were up 17 percent in the second quarter and 18 percent in the first quarter, while Anheuser-Busch's grew only 1.8 percent in the first half of the year and slowed to 0.5 percent in July and August. Boston Beer's second-quarter net income of $7.9 million, or 56 cents a share, was a record.

With increasing sales comes a need for greater production and brewing capacity. The company has its own breweries in Boston and Cincinnati, but they don't meet all of its current needs, much less its production projections.

The projected cost for a new brewery has risen from an estimated $70 million to $90 million a few months ago to $120 million to $160 million, due to higher steel prices.

The increase is huge for a company with market capitalization of $450 million, Boston Beer Chairman Jim Koch said last month at an investor conference. "We have a strong balance sheet of about $65 million, $70 million in cash, and we will need all of that and then some," he said.

Still, the Boston-based brewer recently took an option to build on a site in its home state.

"It's crazy for them to (build) a brewery," Deutsche Bank analyst Marc Greenberg said, noting that the industry has excess capacity available for contract brewing. "Utilization costs are going to go up, return on capital is going to go down, they're going to spend their cash."

As for the possibility of Boston Beer being swallowed in an acquisition, Anheuser-Busch, with a $36 billion market capitalization, is the buyer most often mentioned.

Anheuser-Busch said it doesn't comment on industry speculation. Boston Beer didn't return calls seeking comment.

However, Koch (pronounced "Cook"), also Boston Beer's founder, has shown no interest in selling out. "He's built this thing, and he enjoys its success," said Benj Steinman, editor of Beer Marketer's Insights.

A joint venture with Anheuser-Busch may be an alternative to a merger, said Dan Varroney, president of the Association for Corporate Growth, a trade group for mergers and acquisitions.

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