Consumers' Taste For Craft Brews Gives Boston Beer A Nice Buzz

A craft beer has a full, rich flavor that's slow-brewed through a four-vessel brewing process.

Only the best ingredients are used, such as two row barley and Noble hops varieties.

It's brewed using a time-consuming process that brings a rich sweetness from the malt.

Maybe that sounds like a beer commercial. But it's the process used by craft brewer Boston Beer Co. SAM.

Founded in 1984 by Jim Koch, the brewer mostly makes malt beverages under its flagship brand Samuel Adams. It also makes flavored malt drinks and hard cider.

Craft beer is defined by the Brewers Association as beer made by a brewery that makes less than 2 million barrels a year.

Also, it has less than 25% ownership by a noncraft brewing company and has at least 50% of its volume in an all-malt beer.

Paul Gatza, director of the Brewers Association, says craft brewers sold more than 6.7 million barrels in 2006, up 12% from the year before. Total craft beer industry sales have grown 31.5% the last three years.

U.S. craft beer industry annual dollar volume is $4.7 billion. The overall U.S. beer market hit $94 billion in 2006, producing 210 million barrels of beer.

Now indicators point 15ward accelerating sales growth for craft beers, Gatza says.

"There's a change in lifestyle going on. People are trading up (for a better beer) and that is what is creating such strong demand for craft beer. And supermarkets have responded," Gatza said.

Data from Information Resources show craft beer with a 17.8% boost in supermarket sales last year. This is more than any other alcohol beverage category, Gatza says.

Topping the list for top craft brewer out of the 1,400 small breweries is Boston Beer Co., based on shipment volume.

In the first quarter, the brewer sold 400,000 barrels, a 24% increase from a year ago. The firm sold 1.6 million barrels last year, up 18% from 2005.

Boston Beer lifted sales by 27% to $72.5 million. It was the seventh straight quarter of double-digit sales growth.

Analyst Andrew Sawyer notes that Boston Beer's craft niche is subject to a cyclical shift. In the 1980s through the mid-1990s, imports got the most growth, while craft beer barely registered on the radar.

Now beer drinkers are more open to variety. That bodes well for Boston Beer, whose Sam Adams brand boasts 17 brews.

"Its core has been Sam Adams Boston Lager and its light beer," Sawyer said. "But lately its seasonal products have driven sales, which made up 25% to 35% of total revenue."

Its seasonal selection offers a beer for every occasion.

From its Summer Ale for those hot July days to its Winter Ale for the holidays, Boston Beer has its customers covered.

Sawyer says the company's focus will be on two things. The first is to sustain sales growth in the mid-teens. He concedes the brewer will more likely hold at high, single-digit sales growth.

The other factor will be the brewer's decision to build a $200 million brewery. No decision is expected until August at the earliest.

Sawyer says a brewery might not be in the company's best interest.

"Building a brewery has only marginal profit benefit, and this will result in meaningful (earnings per share) dilution," Sawyer said.

Sawyer estimates that a brewery could knock as much as 30 cents a share per year off earnings, unless there's significant cost savings. He doesn't believe there is.

Last quarter, Boston Beer more than tripled profit to 40 cents a share.

If Sawyer is right about dilution, its profit could take a hit over the next few years.

Boston Beer outsources all its production to other breweries. Through contract packaging, it spends little capital and has a high return on investment, Sawyer says.

In April, Boston Beer signed a deal with a subsidiary of City Brewing to brew Sam Adams at a Latrobe, Pa., plant. Boston Beer plans to invest $3 million to $7 million in the brewery, and it may take an ownership stake in the plant.

Over the years, Sam Adams has been brewed under contract at various plants, including Detroit-based Stroh brewery, Portland, Ore.-based Blitz-Weinhard brewery, which has since closed, and a Cincinnati plant that Boston Beer bought in 1997.

Today, more than 60% of its beer is produced at the Cincinnati plant. A third of Sam Adams beer is made under contract at breweries in Rochester, N.Y., and Eden, N.C.

The company brings its own employees, ingredients and brewing processes to contract sites to ensure consistency and quality. It retains a small brewery in Boston for tours and beer tastings.

"A few years ago, the decision to build a brewery might have been a slam dunk and only cost Boston Beer $70 million to build," Sawyer said. "But there is plenty of available contract capacity with the Latrobe contract and a facility in Memphis (Tenn.). It has secure production."

Boston Beer says production costs could rise as much as 7% to 10% above last year due to poor worldwide barley crops and potential glass cost increases.

Gatza says barley prices nearly doubled from last year to $326 per metric ton in January. "All malt beers need more barley than traditional brewers. So price hikes hit the small guys worse than the big guys like Anheuser-Busch BUD," he said.

Boston Beer says the higher costs will be partly offset by a planned 3% price increase.

Based off these projections, the brewer expects 2007 earnings of $1.42 to $1.55 a share.

Analysts surveyed by Thomson Financial expect a $1.40.

Although the largest craft brewer, Boston Beer still makes up less than 1% of the total U.S. beer market.