Polish Booze Distributor Serves Up Spirited Stock

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Poland is the world's fourth-largest vodka drinker by volume and Europe's fourth-largest beer drinker. Vodka still accounts for more than 1% of gross domestic product, but drinkers have increasingly switched to beer, most of which is imported. Vodka drinkers overwhelmingly opt for local brands, and Poland's prospering middle class has in recent years preferred upscale brands.

Central European is benefiting from each of these trends. As the country's largest beer distributor, it's enjoying soaring sales of imports, particularly since May 2004, when Poland joined the European Union and the removal of import duties made beer less expensive. As the strongest vodka company, it's picking up assets on the cheap as smaller distributors go out of business. Since 1996 the number of booze distributors in Poland has shrunk to 170 or so from about 1,000. Central European has bought more than a dozen of the best ones at prices that add to earnings right away. Its latest purchase of a large, unnamed distributor announced in April is typical of the company's deal economics. It paid just 12% of sales. In America, the average liquor distributor goes for more than 300% of sales. The deal brings in about 7% of Central's sales for last year ($944 million) and should boost profits immediately.

Now the company is focusing on pushing its top brands into foreign markets. Its Zubrowka vodka is already the No. 2 seller in France. Last year sales of the brand in Britain increased 47%. The company plans to launch the brand in America this year. Grain prices, driven higher by worldwide ethanol demand and hot weather in Poland, had threatened to crimp margins, but the company increased prices in October and has benefited from an easing of grain prices so far this year. This year the company says it will increase sales by 15%, including 12% of organic (not from acquisitions) growth, and boost gross margins by a half percentage point to 21.5%. Further improvements seem possible. Constellation Brands (STZ), an American spirits distributor whose shares we recommended in February 2004 (they're up 44%, or about 10 percentage points more than the S&P 500 index) enjoys a gross margin of 29.8%.

Best of all, Central European might be something of an undiscovered bargain. It operates mostly in Poland, but the company has no stock listing in Warsaw, trading instead only on Nasdaq. American investors are far less familiar with the company than Polish ones. So while the company is expected to grow its earnings at 17.5% a year over the next five years, well faster than its U.S. counterparts, the stock fetches 1.3 times sales (vs. an average of more than 3.0 for American companies, recall). Analysts expect the company to seek a Warsaw listing soon, which could drive more Polish investors to the stock, as it carries a lower valuation than the broad Polish market (which isn't all that broad, really).

The stock's run-up in recent years might be unsettling for some. Shares have climbed 17-fold in value since the Nasdaq listing. But the numbers suggest Central European shareholders will be clinking glasses for some time to come.