The AIM-listed mixer drinks manufacturer Fever-Tree Drinks (LSE: FEVR) has long been on my investing wishlist. But for some reason or other, the time never seems quite right for me to buy it. However, now that it has plunged 20% in a month, I am wondering if this might be a better time than ever to swoop in and buy it before it starts rising again.
What the trading update says
To do that, the first essential step, of course, is to figure out why on earth it has dropped so dramatically. It turns out that much of the fall was seen yesterday when it released its trading update. The stock fell a whole 8.5%! What has happened here? In one word, inflation. That is what happened. The company says, “cost headwinds in 2022 will be more significant than we anticipated”. As a result, “margins are expected to remain broadly flat in 2022”.
Implications for the Fever-Tree Drinks stock
The stock already has a pretty big price-to-earnings (P/E) ratio of 62 times. This explains why the stock was falling even earlier. Over the past year too, it is down by 13.5%. If its profits will underwhelm in the next year, such a high market valuation would be even harder to justify in my opinion. So, clearly there is a case for its share price to decline.
That said, the stock is far from being a bad one. On the contrary, it is a financially healthy company. For the year ending 31 December 2021, Fever-Tree Drinks saw revenue growth of a robust 23% compared to the year before. This growth was dragged down a bit by a 15% increase in its biggest market, which is the UK. Its other significant markets of US and Europe both showed 30%+ growth.
What could go right
It also expects to see a revenue rise of up to 17% this year. I think this ties in with the fact that the pandemic is quite likely expected to moderate even further during 2022. And this would mean that we would go out more to public places without fear, which is likely to increase sales of alcohol and mixer drinks like Fever-Tree products. Moreover, since the economy is also recovering, this is even more likely to be the case. During phases of high economic growth, consumption spending rises and vice versa. In any case, I think its long-term prospects look good.
As far as inflation goes, it is clear that efforts are in place to bring it under control. High government spending required during the pandemic will soon be a thing of the past it appears. And central banks are increasing interest rates too. Just two days ago, the US Federal Reserve said that it will start tightening rates soon. The Bank of England probably has a few interest rate increases pencilled in for the year too. My point is, that it might just be a matter of time before inflation starts coming off. And that could mean easing cost pressures for the company.
I am looking forward to further developments on this aspect and how they impact the stock. For now though, I have moved this AIM stock up to the top of my watchlist.
Manika Premsingh has no position in any of the shares mentioned. The Motley Fool UK has recommended Fevertree Drinks. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
