The Duckhorn Portfolio (NYSE: NAP) is a producer of luxury wines, or wines selling for $15 or more per 750ml bottle in North America. Through an omnichannel distribution model, the company sells wines in over 50 countries with bottles ranging from $20 to $200 a bottle.
In particular, the company offers tiered pricing in the luxury wine segment, making it possible to attract new customers with lower tier wines (e.g. Decoy Brand) and, as customers begin to deepen their relationship with the brand, with higher quality wine offerings ( e.g., Duckhorn Vineyards, Kosta Browne). In addition, the company strengthens its relationship with customers through:
- Subscription wine clubs and testing rooms
- Direct-to-consumer (DTC) sales channel leveraging the company’s e-commerce website for multiple wineries
Now what about the product? If you’ve never tasted the company’s wine, you might be wondering if it tastes good. Well, let’s answer that question with some numbers. According to Vivino, a wine with the following rating:
- A 4.0 rating is better than 85% of the world’s wines (average cost $28.71)
- A 4.5 rating is better than 99% of the world’s wines (average cost: $128.71)
- The average Vivino rating is 3.6 (average cost $15.07)
If you look around the platform, you might see that the company’s top wines are above the Vivino rating of 4.0. while affordable wines are rated above the Vivino rating of 3.6.
Total Addressable Market (TAM)
The company’s TAM is the global wine market, which is currently nearly $420 billion and is expected to reach approximately $720 billion by 2030. That being said, I prefer to limit the company’s TAM to the US wine market since most of the company’s revenue is domestic. Below are my estimates for the reference market.
The estimates above include both on-site and off-site sales. Additionally, we can further narrow down the US wine market, specifically to the luxury wine segment, which will account for between 10% and 15% (or ~$6bn US wine market) in 2020.
Discounted cash flow model
Now let’s understand how much the company is worth based on the assumptions I made and which you can see presented below.
For the top-line, I’m projecting a CAGR of 12.1% over the next 10 years and a growth rate in perpetuity equal to the current 10-year Treasury rate of 2.92%. In particular, I’m projecting a CAGR nearly double the CAGR of the broader wine industry, as I limit the TAM to the US luxury wine segment. From a top-down perspective I expect the company’s market share to reach 0.85% (up from 0.52% currently) of the total U.S. wine market by 2031. Going forward, I also project an operating margin of 25.6% for next year (vs. an EBIT margin of 25% in 21) and a target operating margin of 29.8% (industry median).
The unleveraged free cash flow is discounted using a WACC of 6.74%, you can see these calculations below.
Specifically, the leveraged beta was calculated using a bottom-up approach, the company’s ERP using an implicit method approach, further adjusted for the mid-cap premium (+0.5%), and the cost of debt using the synthetic approach. Finally, adding it all up, we get the implied value per share, which is shown below.
As you can see from the estimates above, the implied value per share is the same $29.47, meaning the company is currently trading at a discount of 31.3% (based on my assumption you can see I’m assuming a terminal EV/EBITDA multiple of 13.94x). To better gauge the market sentiment, along with the implied value per share, I provide the sensitivity analysis for two key variables: terminal growth rate and WACC.
High inflation & wine industry
Price returns for wine delivered a positive real return with a 50% hit rate and an average real return of +5% in all periods and particularly during the eight US inflationary regimes. In addition, the company’s exposure to higher-income consumers, whose purchasing power will be less affected by high inflation, provides an additional layer of protection against high inflation.
Risks to my target price include:
- natural disasters: agricultural risks, water availability, wildfires, floods, disease and pests could affect the quality and quantity of grapes and thus the company’s operational performance.
- contest: In the US, the wine industry is relatively concentrated among a small number of players, with nearly 50% of US wine sales occurring outside of E&J Gallo, Constellation Brands (STZ), Trinchero, Jackson Family Wines, Ste. Michelle and the wine group. Such intense competition can adversely affect the company’s revenue growth.
I rate stocks as TO BUY with a fair value of $29.47/share, which means that a 31.3% discount versus the current price of $20.25.
The company is well-suited for investors looking for value (the company is free cash flow positive and has effectively reduced its interest-bearing debt ratio in recent years), growth (it’s well-positioned in a growing luxury wine segment), and a hedge against inflation (historically, price returns on wine have delivered positive real returns during eight US inflationary regimes). Overall, I believe sales momentum will remain strong and that the company will be able to effectively navigate short-term macro headwinds.