Description

Could Celsius be a Monster? More specifically, is Celsius Holdings (CELH), a company which develops and markets energy drinks under the Celsius brand name, on track to build a business comparable to that of Monster Beverage (MNST)? As a practical matter Celsius’ business will not grow as large as Monster or Red Bull, the two energy drink category leaders, each with +/-$4B in sales. The market, though still growing, is too mature for that. However, given their fast-growing niche within the category and their own high growth in the past two years driven by gaining a foothold in national accounts, it is reasonable to believe the company could grow revenue to multiples of the $52m achieved in 2018. If the company achieved even $200m in sales over the next few years I believe the stock would double or triple.

Factors that could help drive revenue growth to multiples of what it is today include that the company has secured initial distribution in national outlets such as Target and CVS and that those accounts are expanding doors and SKUs. Growth in U.S. sales has been 60% and 70% in 2017 and 2018, respectively because of these distribution agreements. Additionally, beginning this year the company should be cash flow positive or much closer to it.

This writeup, in addition to analyzing the opportunity, catalysts and valuation for Celsius Holdings, will offer brief highlights of Monster Beverage’s historical financials and valuation as it provides some insight into the Celsius opportunity within the energy drink market and some benchmarks for potential growth and how to value the stock.

Celsius energy drinks were created in 2004 and the business was reversed merged into the current company/stock in 2007. Today the Celsius brand positions and differentiates its drinks within the energy category as “functional”. Based on six (arguably seven) separate company-funded academic studies, they argue their drinks help burn more calories during exercise by increasing a consumer’s metabolism rate for up to a 3-hour period. At its best, perhaps these calorie burning claims have merit, or at least can be legally made based on the studies. Studies available here: https://www.celsius.com/science/

Value exists in having these studies complete compared to peers that do not. However, I believe of key importance to an increasingly health conscious consumer is that Celsius products are not made with high fructose corn syrup, are sweetened with sucralose (found in Splenda), and are built around an ethos of fitness and good health which Monster and Red Bull are not. In addition to not using corn syrup, Celsius uses what they call “good-for-you” ingredients such as green tea, ginger, calcium, chromium, B vitamins and vitamin C. However, similar to Monster, Red Bull, and other energy drinks, Celsius products are loaded with caffeine.

In terms of formulation there is little rocket science required to create a beverage, a factor which begs the question why can’t another company – including Monster, Rock Star and Red Bull – make a similar product by taking out the corn syrup and adding sucralose? Moreover, Celsius has no patents, only trade secrets. Of course, competitors both large and small can and do make some kind of copy of Celsius product, or at least sugar free versions. The same question of “moat” could be asked about Monster energy drinks when they took off in 2003. Couldn’t Coke and Pepsi add some (more) caffeine to their drink, slightly lower and/or eliminate the carbonation, come up with cool sounding, non-traditional flavors, focus group a new name, cast a slightly different shape can and crush the nascent up and comer by flooding their existing distribution network with their own new brand? Well, I asked myself exactly these questions back in the mid-00’s. After doing some material research on MNST (then Hansen Natural Corporation) in 2003 I took a pass precisely due to the lack of moat against better financed competition. I concluded Monster was just sugar water and that brand value was limited given its then only recent history and the likelihood of copycats. I wasn’t a huge fan of how it tasted either (ditto Red Bull). After that I briefly considered and then passed up the stock about once a year from 2003 to 2007 as I sifted through ideas. I finally stopped bothering after MNST was a 10-bagger. (Too bad I gave up as it became a 20-bagger.)

Of course, the same “it’s just sugar water” analysis could be applied to Snapple, Arizona Iced-Tea, Sobe, Fuze and other beverages which by rights should never have taken off. In fact, courtesy of bevnet.com here is a link to a list of 332 functional energy drinks. https://www.bevnet.com/brands/Functional_Energy_Drink_Regular?page=1  The list amounts to the primordial soup of energy drinks. I feel pretty safe saying almost all these brands will have a brief life and of those that live few will evolve into Monsters, even tiny ones.

An important factor giving Celsius a credible chance of pulling itself from the ranks of startup brands is the new distribution achieved over the past two years. In 2018, Celsius was introduced to 500 Target stores which expanded to 1200 stores by year-end and from three to four SKUs. CVS was also added in 2018, with distribution in 1000 stores via three SKUs. Other accounts added in 2017 and 2018 included 7-Eleven, RaceTrac, Sprouts, Harris Tweeter, Sunoco, Food Lion, Hannaford Supermarkets, Delhaize and Circle K. In addition, the company has signed up a range of regional independent beverage distributors. These distribution milestones indicate the product is taking share and selling through fast enough to warrant adding to additional doors and prompting additional retailers to take them on. They seem at the point we’re the momentum begins to feed on itself.

Celsius target market is slightly different than that of traditional energy drink Monster (or Rockstar), party drink Red Bull and also functional energy drink competitor Bang. According to CELH management, Bang’s focus is 18 to 24 year-old males. Celsius’ target market is age 24 to 36 and is 50% male, 50% female.

One can get a sense of the difference in the target market by reviewing the marketing pitch from the various brand’s respective websites:

Celsius: CELSIUS is a Fitness Drink which has been clinically proven to accelerate metabolism and burn calories & body fat while providing healthy energy. Available in both sparkling and non-carbonated flavors, CELSIUS is an ideal pre-workout drink and also serves as a refreshing alternative to coffee and other caffeinated drinks. CELSIUS is the perfect addition to an active lifestyle and has no artificial preservatives or flavors, no aspartame, or high fructose corn syrup and is very low in sodium. CELSIUS is delicious that delivers, (clinically proven to do so). https://www.celsius.com/products/#celsius

Bang (owned by Vital Pharmaceuticals, VPX Sports): Make no Mistake – BANG® is not your stereotypical high sugar, life-sucking soda masquerading as an energy drink! High sugar drinks spike blood sugar producing metabolic mayhem causing you to crash harder than a test dummy into a brick wall. Power up with BANG’s potent brain & body-rocking fuel: Creatine, Caffeine, & BCAAs (Branched Chain Amino Acids). https://bang-energy.com/product/bang-12-pack/

Monster: Tear into a can of the meanest energy drink on the planet, Monster Energy. It’s the ideal combo of the right ingredients in the right proportion to deliver the big bad buzz that only Monster can. Monster packs a powerful punch but has a smooth easy drinking flavor. Athletes, musicians, anarchists, co-eds, road warriors, metal heads, geeks, hipsters, and bikers dig it- you will too. https://www.monsterenergy.com/products/monster-energy

 “Co-eds”? But I digress.

Red Bull: Red Bull gives you wings. Red Bull Energy Drink is appreciated worldwide by top athletes, students, and in highly demanding professions as well as during long drives. https://energydrink.redbull.com/

My analysis is Red Bull has a veneer of athlete centric-ness to it, but mainly by sponsorship association. Red Bull really about giving people who need to stay awake a shot of caffeine, including those who are working, driving a car or partying late. Monster is targeted to cool, edgy people who probably don’t exercise a lot and it is notable that the marketing is conspicuously silent about what is actually in the drink. Bang is targeted to sophomoric young men, but, specifically, health conscious sophomoric young men. Celsius is targeted to active, health conscious young adults, both men and women who are an age group higher than Bang’s audience.

Celsius CEO maintains (in the transcripts) that the broad energy category is shifting fast towards the healthier niche which includes Celsius and Bang much as the same thing happened with sugary sodas. While it doesn’t mean Monster or Red Bull are going away any more than Coke or Pepsi have as consumers shifted away from sugary soda, it does suggest there is a tailwind for Celsius to gain share. I would argue for the large players the spin on their core products (Monster=edgy, Red Bull=stay awake, party) doesn’t really lend well to using their current brand name to extend into the niche Celsius targets.

Though growing revenues fast, Celsius has not been cash flow positive due to an effort to launch the product in China as follows per the 10K:

In September 2017, we entered China with our partner, Qifeng Food Technology (Beijing) Co., Ltd. (“Qifeng”). With exciting success, we began both local production and initial distribution of the Celsius^® brand. The initial distribution covered select channels across three Tier-1 cities - Beijing, Guangzhou and Shenzhen, as well as in over 30 other cities across 14 provinces. Consumer response has been overwhelmingly positive and signals that our plan for broader product distribution in China is in-line with market opportunities. At the same time, we are also accelerating our distribution in Hong Kong through our partnership with A.S. Watson Industries. The foundation of our business in Asia is with strong, capable partners, and we are committed to building on our success to further grow our brand and increase placements of our products.

Perhaps driving this push into China is the fact that Hong Kong billionaire Li Ka-Shing has been an investor in Celsius since 2015, with an additional investment of $15m in March 2017. Per the 10K, today Li Ka-Shing’s shares amount to 13.8% of the company. I can’t find much independent information on Qifeng. Celsius management notes that it is an international distributor of food and beverages founded by a former Pepsi, Nestle and Red Bull executives.

Regardless of the pedigree of the Asian ties (limited in the case of partner Qifeng, material in the case of shareholder Li Ka-Shing), the cost of trying to build the brand in the U.S. (and to a lesser extent, but with some success in Europe) while simultaneously entering Asia has been over $7m per year in costs (by my estimate) in each of 2017 and 2018 for Asia alone. (At least they weren’t fighting a land war in Asia and trying to match wits with a Sicilian as I’m sure demise would have been certain.) During this period Asian revenue grew from none in 2016 to $800K in 2017 to $4.2m in 2018, which is not bad really. However, the commitment to a China build out has been the difference between being EBITDA positive and EBITDA negative the past two years. By my accounting and using China costs garnered from conference calls, EBITDA in 2017 would have been positive $3m in 2017 and $2M in 2018 if not for China costs.

Early in 2019, the company announced a plan (which was recently finalized) to “sell” the China business back to partner Qifeng for a total of over $19m paid to Celsius via a combination of a fixed $6.9m royalty fee and $12.25 million in invested capital. Payment of these sums are spread out over a five-year term. Post the five-year deal period the agreement reverts to sales-based royalties.

The payback amounts to almost five times sales paid over an extended period. Will they see all this money? I have no idea. Maybe not, but hopefully some. However, the China investment was a sunk cost and was weighing on the stock due to concerns about dilutive cash raising. This drag was happening at time the rest of the business was at an inflection point, both in terms of sales and being cash flow positive ex-Asia. The war analogy may be apt in that trying to rule the entire world all at once tends to spread one too thin and backfires. The deal allows them to focus on the core and leaves them with the possibility of receiving back the invested cash plus a long-tail option for a royalty stream post completion of the five-year deal. It also materially lowers the possibility of dilutive deals to raise cash at a time the stock price is near a low.

Hansen Natural Corporation, the forerunner to Monster, created Monster Energy drinks in 2002. Revenues were already at $270m in 2005 and $515m by 2006. Impressive and speaks to how open wide the energy drink opportunity was at that time. Historical 10Ks do not allow me to parse out specific Monster revenues apart from Hansen juice revenues until 2005. (Red Bull, in its current format, was formed in 1984)

Some Monster Beverage financial and valuation data is shown below. (Per Eikon.) Up until 2015, the revenue below includes some Hansen revenues. Hansen was sold in 2015.

 

 

 

Monster revenue growth was true hypergrowth in the early years with growth at or above 60%, 90%, 70% and 50% from 2004 to 2007. During this period the company was rapidly expanding distribution. From 2004 to 2008 period MNST price to sales ranged from 1.1 to 8.6, but mostly bounced around from 3 to 6. EV/EBITDA was high teens and EBITDA margin settled in around 27% to 30%.

Celsius had $52m in 2018 revenues of which $4.3m was Asia, $9.2m was Europe, and $39m was North American. I assume all the Asian revenue is gone going forward as part of the new deal and is replaced with some cash payments, which assuming the payments are made, provides some extra defense against the need to raise money to fund the business. I’m growing Europe at 5% per year in 2019 and 10% thereafter. North American revenue grew 62% in 2018 and 73% in 2017. If I grow North American revenue at 45% per year in 2019, 2020, 2021 and 2022 the company would have $185 in revenue in 2022. Overall company growth rates in this period would be 37%, 40%, 41%, 42% per year.

The table below maps out financials using the prospective revenue growth described above. I really don’t have precise insights into these numbers, but I’ve lowered North American growth from the 60%/70% rate of the past two years to a more conservative 45% and assumed the European business does not significantly reaccelerate. Gross margins are currently pressured as the company pays up for shelf space. I am assuming gross margins and EBITDA margins expand towards 27% in 2022.

Looking out over the next four years of my projections, I believe the best way to value the stock is on price/sales, though towards the end of the period that will revert to EV/EBITDA and/or earnings. Today the stock is at 4.7 trailing sales and, using my revenue projections, at about 3.8x 2019. Over the past three years trailing price to sales using average stock price in a given quarterly period has ranged from 3.6x to 7.9x. Using 4.0x to 5.0x price/sales yields a stock priced between $6.48 and $8.10 on 2020e and $9.13 to $11.41 on 2021. This equates to 50% to 250% upside over the next two years should they maintain their current momentum.

 

 

Law suits seem to be a cost of doing business in the energy drink space. Competitors sue each other over the baselessness of their claims. Class actions suits are aimed at individual brands for improper labeling and dangers due to excessive caffeine. Celsius was subject to a class action lawsuit in 2010 regarding their “structure function” claims and according to management they prevailed. They are currently being sued by Rockstar Energy for false advertising and unfair competition. Celsius claims Rockstar is unhappy because they are ceding share and eye-level shelf space to Celsius. Of additional concern to Rockstar may be that their distribution deal with Pepsi ends in 2019. (Monster has a deal with Coca-Cola.)  I don’t know if the agreement precludes Pepsi from distributing another non-company owned energy drink, but if it does then the end of the agreement may open a door for Celsius. I get the impression from an historical web search review of news on Rockstar that the CEO is an egomaniac and tough to deal with. The same goes for the CEO of Bang. Perhaps there is an opening for Celsius to get distribution with Pepsi. This is only speculation.

Below are a list of top selling energy drinks by brand. Note that Vital Pharma, at $212m is the maker of Bang, a direct competitor of Celsius in the functional space.

 

 

 

 

Risks: Lawsuits, competition from both established beverage makers and small upstarts, recession.

 

 

Catalyst

Continued scaling of distribution and revenues and company proving they can be self-funding.