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FEMSA (FMX) Looks Prim on Distribution Business Expansion

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Fomento Economico Mexicano S.A.B. de C.V. (FMX - Free Report) , alias FEMSA, is witnessing momentum, owing to improved consumption patterns and strong business momentum, resulting from the easing of restrictions across most markets. Its focus on offering customers more options to make contactless purchases by intensifying digital and technology-driven initiatives across operations also bodes well. Additionally, its efforts to create a national distribution platform in the United States through the expansion of footprint in the specialized distribution industry positions it for growth in the long term.

However, we cannot ignore the headwinds arising from supply-chain disruptions and the rise in COVID-19 Delta cases in many markets. The uneven trends across markets are likely to continue hurting the company’s earnings. Escalating industry-wide freight costs and an increase in other input costs are headwinds impacting the company.

Factors Likely to Support Growth

FEMSA has exposure in various industries, including beverage, beer and retail, which gives it an edge over its competitors. The company participates in the beverage industry through Coca-Cola FEMSA (KOF - Free Report) , which is the world’s largest franchise bottler for Coca-Cola (KO - Free Report) products. In the beer industry, it enjoys a notable position, with its 14.76% stake in Heineken (HEINY - Free Report) , a leading brewer with operations in 70 countries.

The company’s share in the retail space relates to the operation of various small-format store chains, including OXXO, through its FEMSA Comercio subsidiary. Apart from these, FEMSA provides logistics, point-of-sale refrigeration solutions, and plastic solutions to its business units and third-party clients through its FEMSA Strategic Businesses subsidiary.

We are convinced of FEMSA’s efforts to expand its presence in the specialized distribution industry. The company recently took a leap in the expansion of its specialized distribution business in the United States. Envoy Solutions, which is FEMSA’s specialized distribution subsidiary in the United States, entered a deal to acquire the Philadelphia, PA-based Penn Jersey Paper Co. The acquisition of Penn Jersey will bolster FEMSA’s distribution presence in the East Coast, including the Philadelphia metro area and New York City. Penn Jersey generated annual revenues of more than $200 million as of June 2021. FEMSA expects to seal the deal in third-quarter 2021 after the customary closing conditions are satisfied.

Earlier, the company agreed to acquire Maryland-based Daycon Products Co., which will fortify its specialized distribution presence on the East Coast of the United States, including Washington DC and Virginia, West Virginia, Maryland, Delaware, New Jersey and Pennsylvania. It also announced the acquisition of two independent specialized distribution businesses — Spartanburg, SC-based Southeastern Paper Group, Inc., and Wichita, Kansas-based Southwest Paper Company, Inc. The companies together generated annual revenues of nearly $380 million as of September 2020.

The company’s venture in the specialized distribution industry relates to its plan of investing in adjacent businesses, which can leverage capabilities across different markets, providing an opportunity for attractive growth and risk-adjusted returns. With the presence of its OXXO business and other retail operations, the company has become an expert in the organization and management of supply chains and distribution systems.

FEMSA serves large numbers of businesses and retail customers through millions of interactions in different industries. The recent transactions are likely to complement its investment in WAXIE Sanitary Supply and North American Corporation in March 2020. This marked the company’s entry into the U.S. specialized distribution industry, which covers a wide variety of sectors, including fresh and frozen products, decoration, DIY, office supplies, furniture, and stock clearance.

The company’s Coca-Cola FEMSA is leading the way with its omni-channel business, while FEMSA Comercio is progressing with the adoption of digital initiatives. Within its OXXO store chains, the company is on track with investment in digital offerings, loyalty programs and fintech platforms to evolve stronger after the pandemic and over the long term. It has also been benefiting from its growth via acquisition strategy.

In second-quarter 2021, FEMSA witnessed improved trends across its business units and markets, owing to the recovery in consumption as consumers returned to stores with the lifting of mobility bans, which aided top-line growth. The company witnessed an increased demand for all products categories, including thirst, hunger and the occasional treat, which aided growth across all segments.

Few Headwinds to Counter

Despite the strong results, FEMSA reported net majority earnings per ADS of 43 cents (Ps. 86 cents per FEMSA unit) in second-quarter 2021, missing the Zacks Consensus Estimate. The lower-than-expected earnings per ADS can be attributed to uneven trends across markets despite strong top-line growth and improved margins.

Though the improvement was not linear across markets or segments, the company seems to be well-positioned compared with the prior-year quarter in all its units and also better than second-quarter 2019 in some units.