By Scott Ronalds

The following is a recap of Edinburgh Partners Limited’s (EPL) investment in Carlsberg. It’s an example of a turnaround opportunity, which is a common theme in our Global Equity Fund.

To re-state the obvious, the recession and credit crisis of 2008/09 impacted many businesses around the globe. Corporate earnings and profit margins took a hit, and poor consumer sentiment and investor fear were damaging factors for many stocks.

As is often the case, over-reaction led to opportunity. Businesses that could weather the downturn and restructure by cutting costs and improving efficiencies looked like good bets.

Carlsberg was one such opportunity. The stock dropped nearly 70% in a two month span in late 2008 after the company cut its sales and earnings forecasts and the credit crisis was rearing its ugly head. Yet, Carlsberg presented a reasonable outlook for 2009 (and in fact reported decent earnings for 2008). Their stated focus was on increasing cash flow, controlling costs, “protecting earnings”, reducing capital expenditures, boosting sales in emerging markets and accelerating debt repayment.

The company faced another setback in the second half of 2009 in one of its key markets, Russia, where the government proposed a hefty excise duty tax that would lead to price increases and a feared ‘trading down’ trend to less expensive local beers.

At the time, Edinburgh Partners was eyeing the stock as a good turnaround opportunity. Their thesis was that significant earnings growth could be expected from margin improvement in European markets, sales growth in emerging markets (especially Asia) and from reducing debt. And while Russia presented uncertainty, the manager felt the risks were sufficiently factored into the stock price. Carlsberg was cheap in EPL’s view, and they purchased the stock in the fall of 2009.

Edinburgh Partners uses a 5-year earnings forecast model as part of their analysis and typically have an investment time horizon of 3-5 years or longer. The Danish brewer was an exception; it was sold after one year. By the summer of 2010, Carlsberg was well along the path of recovery. It had achieved double-digit growth in operating profits, strong revenue growth in Asia, and higher margins in all regions. Further, the decline in Russian volumes was smaller than expected. The stock had rebounded sharply on the improved results.

Carlsberg had delivered on its objectives faster than Edinburgh Partners had anticipated. By the fall of 2010, the stock had gained roughly 70% since their first purchase (in October ’09). The outlook for the company was still positive, but the stock was no longer cheap in EPL’s view and they sold the position.

Today, the manager is finding a similar opportunity in Heineken. The stock has been weighed down by weak European growth, but the company has significantly broadened its access to higher growth markets with the purchase of FEMSA’s beer unit (Dos Equis, Tecate, Sol). Further, Heineken is the world’s leading premium beer brand, and it trades at a lower valuation and offers a higher dividend yield than Carlsberg. The manager doesn’t anticipate the turnaround will be as brisk as Carlsberg’s, but the story is nonetheless appealing.

Although Carlsberg and Heineken are European-based companies, both have significant exposure to markets outside the continent. While Europe is out-of-favour due to the sovereign debt issues in the region, many investors are overlooking companies that have an old world address but a global reach. In EPL’s view, this negative sentiment is presenting attractive investment opportunities.

A final word on Heineken: it’s the preferred lager of this author, which should provide a good boost to short-term revenues so long as the Canucks don’t take a premature bow out of the playoffs. Early signs are encouraging.