Description

Description

MGP Ingredients is a producer and supplier of premium distilled spirits, branded spirits, and food ingredients. MGP Ingredient’s origins began primarily as a third party supplier of premium food grade alcohols to American whiskey manufacturers and have recently moved up the value chain with the acquisitions of Luxco (April 2021, $237.5mm cash + $296.2mm in equity) and Penelope Bourbon (June 2023, $105mm cash + $111mm earnout). The company operates under three segments:

• Distilling solutions segment (55% of 2022 revenues, 30% GPM) – process corn and grains into food grade alcohol and co-products that are then sold through contracts to customers who blend MGPI’s alcohol into beverages, primarily premium bourbon, rye, and other whiskeys (“brown goods”), as well as vodka and gin (“white goods”). With the announced closure of its Atchison Kansas distillery in 2H’23 / 1H’24, MGPI will be primarily focused on brown goods customers.
• Branded spirits (30% of 2022 revenues, 40% GPM) – portfolio of brands primarily centered around American whiskeys such as bourbon and rye. With the acquisition of Luxco in 2021 and Penelope in 2023, premium+ ($20+ / 750ml) branded spirits will represent more than 50% of this segment’s revenues (likely 65-70%+ of segment GP). This segment is the core focus of MGPI’s growth strategy going forward.  
• Ingredient solutions (15% of 2022 revenues, 27% GPM) – producer of starches and specialty wheat products like protein isolates. Over the last several years, MGPI moved up the value chain away from commodity wheat starches and proteins into branded MGPI specialty wheat starches and proteins (87% of 2022 revenue).

Over the last 15 years, MGPI has transformed itself from primarily a commodity producer of food grain alcohols and food ingredients into a high value producer of branded American whiskey and aged food grade alcohols. In 2011, MGPI acquired a distillery from Seagram’s / Pernod Ricard in Lawrenceburg Indiana that gave way to the company launching a strategy of building aging whiskey inventory (starting in 2015) as it foresaw the growth of boutique American whiskey. Whiskey, especially premium+, needs to be aged for many years in barrels which creates a high barrier of entry for smaller boutique brands that don’t have the capital or time to build their own distillery. MGPI was an early mover in recognizing this fact and became the third-party distillery and supplier of choice for many of the best known boutique American whiskey brands such as High West, Bulleit Rye, Angel’s Envy, and Whislepig. As the strategy of becoming a supplier of choice to premium boutique whiskeys took off, MGPI’s EBITDA grew from ~$45mm in 2015 to $68mm in 2020 and EPS grew from $1.53 in 2015 to $2.50 in 2020.

Despite the transformation of the business, MGPI seems to be flying under investors’ radars. We believe the stock is undervalued as (1) it sits at the very bottom of its historical valuation range @ 11.6x NTM EBITDA (the lowest in its history other than during COVID or prior to its aged inventroy whiskey strategy), (2) is trading at a significant discount to both publicly traded (albeit larger) spirit peers like Brown Forman (20x NTM EBITDA), Diageo or Pernod Ricard (both14-15x NTM EBITDA) and precedent M+A in the industry (typically 13-20x EBITDA), and (3) has a highly attractive top-line and bottom line growth profile as a business that’s primarily exposed to one of the fastest growing spirit categories globally. Given that Bratcher has been named CEO, we believe MGPI will continue to emphasize moving into high value businesses like Branded Spirits and will be a consolidator of the boutique American whiskey industry that will drive revenue growth and margin expansion.

Thesis Detail

Premium American whiskey is amongst the fastest growing spirit categories

Since 2010, American whiskey has steadily gained market share by volume in the US, going from 11% in 2010 to 16% share in 2022 (Source: IWSR). The growth of American whiskey shouldn’t be surprising given American whiskey used to make up 24% of spirit market share by volume in 1980 and 41% in 1970.

More recently, trends show the uptake of American whiskey continue to outpace most of the alcohol industry, as American Whiskey volumes grew by 5.2% in 2022 by case volume and most recently available data from NABCA show that American whiskey volume growth of 1.4% (vs. mkt of 0.6%) for the 3 months ended August, with the strongest value growth coming at the high end of the market (for 52 weeks ending July 2023):

Notably, the strongest growth brands within American whiskey has not come from the largest producers but from the long tail of boutique and craft American whiskey producers:

The trends above are even more pronounced when we look only at premium US whiskey, where the long tail smaller producers have gone from ~1% market share in 2015 to 12% in 2022, much of which was supported by MGPI’s ingredients.

International also represents a significant opportunity for American whiskey as data from IWSR shows that the US Whiskey market grew by nearly 11% / year on a global basis while still representing only 2%/4% of global volumes / value (x USA). US whiskey’s global value share has steadily increased ~10-20bps / year over the last 10 years at the expense of Scotch whiskey, which has seen its global value share (ex US) decline from 9.7% to 7.6%, according to IWSR.

MGPI’s increased scale and focus on premium whiskey will drive margin expansion

MGPI now has a sizeable portfolio of brands after the acquisition of Penelope, which we believe will allow them to leverage their scale and distribution more effectively to continue to deploy capital in an accretive manner. The merger of Luxco into MGPI created a strong distribution and production platform which should drive significant synergies for any brands that it acquires in the future. CEO David Colo’s noted at their 2021 investor day: “Before Luxco, I would tell you, we couldn’t afford to go out and buy a high multiple business because… oftentimes, there’s no operating income generation or EBITDA generation… now, [the answer] could be yes if we think we can take that brand and scale it or a combination of scaling it from regional to national and maybe there’s a lot of synergies, quite frankly, on the SG&A side because we have a platform now that we could buy it, strip out a lot of the SG&A bolted into our system.”

While MGPI hasn’t disclosed specific terms of the Penelope acquisition for competitive reasons, management notes that Penelope is a customer of MGPI’s and the company expects at least cost synergies of $5mm by the end of 2025 (vs. upfront acquisition cost of $105mm) and expects the deal to be immediately accretive to EPS. MGPI’s position as a supplier to many of the fastest growing brands means it also has an edge in identifying the fastest growing brands.

Over time, we think that MGPI’s margins will keep increasing as it scales and mixes more into premium spirits. For example, Brown-Forman reports over 60% gross margins and 30% operating margins consistently as premium whiskeys are usually able to take 2-4% of price every year without any meaningful demand degradation. MGPI’s Branded Spirits GPMs today are ~45% while operating margins are only in the low teens, which we believe is a direct result of being subscale. While we don’t think MGPI can ever get to Brown-Forman’s margins given their scale advantage, we believe MGPI can push well into the 50%+ GPM / 20% operating margin range over time as its bolts on more acquisitions.

New CEO David Bratcher seems to be the right person to lead the company

In conjunction with MGPI’s 3Q22 earnings on November 2^nd 2023, the company announced that COO and former Luxco President David Bratcher would become MGPI’s CEO starting in 2024. We believe that Bratcher is the logical person to become CEO of the company as he played a major role during his nearly 26 years at Luxco (operations role from 1998 to 2022) in building up the company for sale to MGPI. During Bratcher’s time there, he oversaw the execution of consolidation strategy like what MGPI is undertaking, making significant acquisitions, and integrating them into Luxco that created a large, national distribution platform and portfolio of brands. Given his strong track record as an operator and consolidator in the American whiskey industry, we believe he has the right experience and skillset to progress MGPI’s strategy of premiumization and focus on spirits.

Long-term goals seem achievable

With the closure of the legacy Atchison distillery in Kansas and the acquisition of Penelope bourbon, over 2/3 of MGPI’s revenues (~77% of gross profits) are now directly or indirectly derived from the American whiskey industry. Given the strong trends and dynamics mentioned above w/r/t American whiskey, we believe that this business can likely grow volumes 1-3% and price 2-3% / year, to arrive at a 3-7% top-line revenue growth and 5-9% EBITDA growth. These estimates are similar to management’s long-term goals of growing revenues low-to-mid single digits and EBITDA growth of mid-to-high single digits.

Shares are undervalued compared to history, peers, and as a potential target

As mentioned earlier, despite the notable transformation of the company from effectively a commodity producer into a consolidator of a very attractive and growth industry in the American whiskey category, trades trade at 11.7x EBITDA, or near historically low valuations (other than during COVID). We believe this is unlikely to last as the market becomes more comfortable with new CEO David Bratcher and the acquisition strategy that the company is undertaking. This is an industry that has a long track record of success with many highly successful consolidators, and we believe at the current share price, we’re getting a very cheap option on MGPI becoming the next major successful consolidator / scaler of the spirits industry.

Risks

• Revenue growth is slower due to macro or category weakness
• Margins could decline due to increased competition
• Consolidation strategy results in dilutive acquisitions and new CEO pursues empire building instead of accretive value creation

Catalyst

Earnings; acquisitions