A closer look at Fomento Económico Mexicano; Another warning about Chinese stock scams; Amazing drone display in China
1) Today, let's dig deeper into Fomento Económico Mexicano (FMX)...
In yesterday's e-mail, I took a first look at the Mexican conglomerate, which is also known as "FEMSA."
As I discussed, the company's financials have been mixed over the past dozen years. FEMSA has shown decent top-line growth, but it has declining margins and stagnant free cash flow ("FCF"). So the stock has basically gone nowhere for 13 years.
But as I noted, management is ramping up both dividends and share repurchases. And a number of my friends are bullish on the stock. So let's take a closer look...
There are two main components of FEMSA's value...
As I mentioned yesterday, the first is a 47% stake in the massive bottler Coca-Cola FEMSA (KOF). It has a market cap of around $18 billion. So FEMSA's stake is worth roughly $8.5 billion.
The second is a collection of retail businesses. The largest of which is OXXO, which operates 25,180 convenience stores – mostly in Mexico. The stores look like this:
This is an excellent business, with operating margins well above those of global peers such as Circle K parent Alimentation Couche-Tard and 7-Eleven parent Seven & I. (For more on FEMSA, I recommend reading its annual report.)
But FEMSA reported weak second-quarter earnings on July 28. And the stock dropped nearly 7% that day.
Revenue rose 6.3% year over year. But income from operations only rose 1.2%. And both numbers missed expectations.
Notably, OXXO's same-store sales in Mexico were down 1.2%. That was a nearly unprecedented result.
As FEMSA CEO José Antonio Fernandez Carbajal explained:
In our core operations in Mexico, we faced a challenging combination of a soft consumer environment and very adverse weather that put pressure on retail operations and beverage volumes.
So, what's the bull case for FEMSA?
To answer this, I reached out to my friend and former student Paco Carrillo of Mexico City-based Carlo Capital. As he told me:
This is the best-run company in Mexico. No other management team comes close to it. As a result, the stock has always traded at a big premium, but no longer.
After speaking with FEMSA's head of investor relations last week, Paco had the following insights:
OXXO continues to profitably grow in Mexico, and has the capacity for roughly 10,000 more stores. One out of four – and soon one out of two – new units are "in house" at other companies' offices or factories. While they can't sell beer or alcohol at workplaces, the units are 50% more profitable because they don't pay rent or utilities.
Paco also sees a big opportunity in Brazil:
Grupo Nós, OXXO's non-consolidated joint-venture with Raízen in Brazil, finished last quarter with 603 units, up 78 from 525 the year before. Revenues jumped 33.8% thanks to new units and same-store sales growth of 12.8%. Over time, I think Brazil could be at least the size of Mexico.
Paco also sees long-term opportunity it the U.S. In 2024, FEMSA entered this market by acquiring 249 Delek convenience stores, mostly in Texas, for $385 million.
Paco also highlighted OXXO's loyalty program: Spin Premia.
It had 26.6 million active users last quarter – up 16.9% year over year. And this accounted for nearly half (45.8%) of total sales.
Paco also noted that Spin by OXXO – a payments system and financial-services platform – had 9.4 million active users last quarter. That's up 18.8% year over year.
As Paco says, the company has applied for a banking license and plans to accept deposits, but doesn't plan to extend credit until it finds the right partner.
Paco also isn't worried about declining margins and stagnant FCF. That's because it's mostly due to short-term economic headwinds and a rising minimum wage in Mexico, combined with heavy investments to grow in Europe and Brazil.
Turning to valuation...
Yesterday, FEMSA's U.S. listing closed at $88.11 per share.
Analysts expect earnings per share this year of $4.06 and next year of $4.90. So that gives the stock a price-to-earnings ratio of about 21.7 times this year's estimates and 18 times next year's.
As Paco points out, you need to subtract $8.5 billion from FEMSA's recent $30.8 billion market cap to account for the stake in KOF. This would reduce FEMSA's market cap by about 28%... and bring the multiple to 13 times next year's earnings.
In summary, Paco concludes:
I think there's a lot of room for both revenue growth and margin expansion.
This is the lowest valuation I've ever seen this stock. At this price, you're not paying for growth and getting lots of free options – which I think could be very valuable in light of this management team.
And they are even more focused on delivering for shareholders, as evidenced by the recent surge in dividends and share repurchases.
Thank you for your valuable insights, Paco!
Overall, I'm intrigued by this story...
FEMSA's OXXO has many of the attractive characteristics of Casey's General Stores (CASY) (which I covered in two e-mails last week). But accounting for the KOF stake, FEMSA trades at less than half the price-to-earnings multiple of Casey's. So the lower valuation makes the upside case look promising.
As usual with a setup like this, I'll also want to confer with my team here at Stansberry Research.
If we decide the stock looks compelling enough to recommend for the model portfolio in our Stansberry's Investment Advisory newsletter, our subscribers will be the first to know.
If you aren't already an Investment Advisory subscriber, learn how to become one – and find out how to gain instant access to our full portfolio of open recommendations – as part of a special presentation here.
2) Shifting gears, a hat tip to Edwin Dorsey of The Bear Cave newsletter...
Dorsey has been doing research on – and warning investors about – Chinese pump-and-dump stock frauds.
On August 13, he wrote about problems at e-bike maker Fly-E (FLYE). And on August 15, the stock crashed by a staggering 87% on 18 times normal trading volume.
Please don't get sucked into these schemes...
Almost every day, I receive a text or WhatsApp message from a number I don't recognize. The message tries to strike up a conversation (e.g., "It's been a while. How have you been?") – sometimes with a picture of an attractive young woman. I never reply... I simply block and report as spam.
3) Speaking of China on a lighter note, the country leads the world in small drones. These have transformed warfare on the battlefields of Ukraine (as I've seen many times in person), but they're also useful for amazing displays like this:
Best regards,
Whitney
P.S. I welcome your feedback – send me an e-mail by clicking here.