On Goodwill Hunting & Hidden Value

Imagine the following: You get a call from an investment banker you are acquainted with. He chirpily informs you that you are in for a treat. It just so happens that due to circumstances, he is in the know of two companies that are in play. He goes on to tell you, that not only that, but these two companies are in the exact same industry, of practically the same size and both have the same asking price. 

He quickly runs the number by you. First of all, the two companies have very similar income statements: 

Hunting for Goodwill. Income Statement A vs B

Then he goes on to explain that it is on the balance sheet where the real difference between the two companies is. Company A has around €330 million of operating assets. Company B, on the other hand, only has €21 million of net operating assets:

Goodwill Hunting. Asset-heavy vs asset-light business model
Asset-heavy vs Asset-Light. Which Business Model would you invest in?

Your banker tells you that both of these companies are available to you for a measly sum of €150 million.

Are you interested? If so, which one is the better buy? Is buying €192 million worth of assets from €150 million a bargain or do you buy a business that can generate a €19 million in operating income on €21 million of operating assets?

The value investing angel on your right shoulder gently whispers in your ear that clearly Company A presents the better value. “You can buy it at essentially book value. It’s the more conservative option of the two and in a pessimistic environment, there are assets on the balance sheet“. 

The growth investing devil on your left shoulder begs to differ. Obviously Company B is generating amazing free cash flow yields on its net operating assets. “If this business model can scale, it will do so without sucking up capital. The return on incremental capital would be enormous!

So, whose side do you take? Do you go for the discount to book value or do you go for the return on net operating assets?

As it turns out, you don’t have to pick a side, as Company A and Company B is in fact one and the same: Lucas Bols N.V. 

A Brief History of Lucas Bols N.V. 

Lucas Bols N.V. (AMS:BOLS) is a Dutch public company in the business of production, distribution, sales and marketing of alcoholic beverages. Its portfolio of over 20 brands includes names such as Bols, Galiano, Passoã, Damrak Gin and Vaccari Sambuca. The company claims to be the world’s oldest distilled spirits brand and one of the oldest Dutch companies currently active.

The history of Bols goes all the way back to 1575, but we can fast forward all the way to 1999, with the formation of Bols Royal Distilleries. After a failed merger with Dutch food company Royal Wessanen, Bols was taken private through a management buyout in partnership with private equity fund CVC Capital Partners. Within a year of the buyout, Bols was acquired by Remy Cointreau Group for €510 million. 

In 2006, Bols was subject to yet another management buyout. Led by its current CEO, Huub van Doorne, the deal was financed by ABN Amro Capital and GSC Group with a valuation of €210 million. Then in 2015, Lucas Bols N.V. launched an Initial Public Offering with an offer price of €15.75 per share, reflecting a market capitalization of €196 million. 

After the IPO, Dreamspirit B.V., the company controlled by Huub van Dorne holds a 6% stake in the company. The company’s biggest shareholder is Nolet Holding B.V., a subsidiary of the Nolet Distillery (known for its Ketel One Vodka). 

In December 2016 Lucas Bols and the Rémy Cointreau Group formed Passoã SAS, a jointly owned entity based in France, to operate and further develop the global activities of the Passoã brand. At that date, Lucas Bols acquired 7% interest in Passoã SAS and started performing the day to day management of the jointly owned entity and running the Passoã brand in the ordinary course of business. Lucas Bols assumes operational and financial control of Passoã SAS. 

Upon incorporation of Passoã SAS, the jointly owned entity based in France, Lucas Bols and Rémy Cointreau Group signed a call/put option agreement. This agreement can be executed not earlier than December 2020. If the agreement is executed, Lucas Bols will acquire the remaining shares for a purchase consideration of approximately EUR 70 million.

Goodwill and Other Intangible Assets

But back to our investment banker. If both income statements are from the same company, then wherein lies the difference? The difference in operating assets between company A and B is equal to the value of intangible assets on that Lucas Bols carries on its most recent balance sheet. 

Essentially, out of the €380 million of assets on the Lucas Bols balance sheet, €306 million are intangible. 

Lucas Bols Balance Sheet
Total Assets in the Lucas Bols 2018/19 Annual Report

At closer examination, you will find that the intangible assets consist of two items: Goodwill and Brand Equity. 


The goodwill is a relatively small part of the intangible assets. In the 2018/2019 annual report, goodwill amounted to €20.2 million. It was recognized through the acquisition of Pijlsteeg B.V. in September 2013 and of Passoã in December 2016. 

The only way goodwill gets recorded on a company’s balance sheet is when it acquires assets at a premium to book value. Goodwill does not get amortized over time, but a company has to record impairment losses if the assets are expected to generate discounted cash flows below the carrying amount. 

Brand Equity

The brand equity on the Lucas Bols balance sheet accounts for roughly €284 million of the total intangible assets. Thereof, €215 million were recorded when the Lucas Bols was bought from Remy Cointreau in 2006. Passoa accounts for roughly €70 million. 

Lucas Bols Brand Equity (2018/19 Annual Report)
Lucas Bols Brand Equity (2018/19 Annual Report)

Brands acquired are capitalised as part of a brand portfolio in case the portfolio meets the definition of an intangible asset and the recognition criteria are satisfied.

The brands and brand portfolios have an indefinite useful life because the period during which it is expected that the brands contribute to net cash inflows is indefinite. Therefore, the brands are not amortised and are tested annually for impairment and whenever there is an indication that the brands may be impaired.

This also means that the only way of the brand equity to be reflected on the balance sheet is by acquiring it. As a result, the recorded brand equity of Bols, Galliano and the other brands that were acquired from Remy Cointreau only reflects how these brands were valued in that particular transaction in 2006. That was 14 years ago. 

As mentioned above, Passoa was acquired at the end of 2016, adding €70 million of brand equity to the balance sheet. When the Joint Venture vas announced, Passoa was expected to contribute around €18 million to the annual revenue of Lucas Bols or about 20% of the total revenue.

At the same time, about 25% of the total brand equity is derived from Passoa. If the current brand equity represented 20% of the total brand equity, the Lucas Bols portfolio would be worth €350 million. 

Long Product Life Cycles

Some companies – fashion houses being a good example – are forced by the markets they operate in to constantly reinvent themselves. Every season they must come up with new collections of products to woo its customer base.

The same forces apply to industries such as the one for video games or mobile phones, where companies are constantly under pressure to reinvent themselves. These are industries with short product life cycles. 

Alcoholic beverages, on the other hand, tend to have relatively long product life cycles. Within the distilled spirits industry, product life cycles are particularly long. While a vineyard’s red wine will vary greatly from harvest to harvest, the distilled spirits are extremely consistent. 

Some categories, such as whisky, gin and vodka, are relatively crowded with brands that compete against each other. But in some cases, a brand essentially is the category.

If you order a Negroni cocktail at a bar, it will be served with a brand of gin and a brand of vermouth chosen by the bar. It will also include Campari. Not a brand of bitter, but just Campari. The same if you order a Galliano Hotshot. Rest assured that it will be served with Galliano. 

As such, a brand of distilled liquors can have an extremely long product life cycle.

Managing the Brand Portfolio

Lucas Bols has an asset-light business model in which a large portion of the production process (blending and bottling) is outsourced to strategic partners. The blending and bottling process for the majority of the countries in which Lucas Bols sells its products is outsourced to production partners.

The Company relies on a distribution network of selected distributors with a global reach for the sale of its products. In the US market, Lucas Bols distributes its products through a subsidiary, Lucas Bols USA Inc. In the Netherlands, its products are distributed by a joint venture: Maxxium Nederland B.V.  

As a result, the company is generating around €90 million in revenues with operating profit margins north of 20% with net operating assets of just over €21 million. This is equal to 85% return on net operating assets (RNOA). A truly beautiful business model. 

The downside is that the industry is very competitive and it is hard for new brands to break into the market. People aren’t exactly waiting in line for the next vodka brand. But this does not mean that consumer behaviour doesn’t change.

There are two growth opportunities that Lucas Bols is investing in at the moment. One is an attempt to reinvent genever as a drink and give it international appeal. The other initiative is a brand of pink sparkling liqueur called Nuvo.

Lucas Bols entered in a strategic partnership with London Group, the owner of the Nuvo brand in 2017. As part of the partnership, Lucas Bols obtained the global distribution rights for Nuvo.  Lucas Bols is responsible for buying, sourcing and commercial activities, as well as defining the appropriate distribution channels for the brand. London Group is responsible for strategic marketing, including social media and product development. 

As part of the transaction, Lucas Bols made an upfront payment amounting to USD 0.5 million and pays London Group annual royalties. As with the Passoa Joint Venture, the Nuvo agreement has a put and call option structure that enables Lucas Bols to acquire the brand in the future.

Essentially, the transaction enables Lucas Bols to utilize its distribution platform with limited additional investments required, while having the embedded optionality of recruiting the brand in full, if it starts to gain traction. 

Screening for Value

Consider this: When Lucas Bols invests resources into these new brand efforts, the investments will not be in the form of capital expenditures. They will also not be capitalized as intangible assets since the only way the brand equity gets capitalized is through acquisition. Costs that relate to sales and marketing of new brands and products will, as far as I can tell, all be cost accounted and flow directly through the income statement. 

Now imagine this: You are going to use a stock screener to find value stocks. Most people would equate a value screen with the act of filtering out stocks with high price-to-book or high price-to-earnings ratios. But if you think about it, this isn’t really what value investors actually do. 

Using Price-to-Book as a proxy for value (low P/B-ratio) versus growth (high P/B-ratio) is very handy if you are measuring things at scale. If you are performing research in academia or you are designing criteria for an index fund, you need simple factors that can measure at scale. 

If you are, on the other hand, a fundamental investor trying to develop an edge, you need to look for information that cannot be easily found. Creating a low P/B-screen is something that you can do in a matter of seconds. And if you can do it in a matter of seconds, it means that anybody can do it in a matter of seconds. It’s a good way to start your research, but it’s also the most obvious place to look for value stocks. 

Now think about this: Say you want to look for value stocks, but you specifically want to find stocks that have intangible assets that are not recorded on the balance sheet. How would you use a stock screener to find that?

The companies you are looking for will be investing in their brands or other intellectual property, but without capitalizing those investments. If those costs flow through the income statement, it will both depress earnings and not show up on the balance sheet. 

In that case, should you not be screening for low P/E and high P/B stocks?

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The Fundamental Finance Playbook is a publication dedicated to the Fundamental Research of Stocks and Security Analysis. We publish thoughts and opinions on individual publicly traded stocks as well as our thinking on methodologies for finance and investing practices in general.

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