economics

March 17, 2010

Coca-Cola Deal Marks Major Shift in U.S. Strategy

Filed under: Uncategorized — ktetaichinh @ 4:36 am
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Coca-Cola Co.’s deal Thursday to acquire the bulk of its largest bottler is likely to spell major changes in the way beverages reach stores and consumers in the U.S.

Coke shares slipped 4% to $53.12 in 4 p.m. composite trading on the New York Stock Exchange following the company’s announcement that it will acquire Coca-Cola Enterprises Inc.’s North American operations, representing about 75% of the volume of Coke products sold in the U.S. and all of its Canadian volume. At the same time, CCE will expand its European operations, acquiring Coke’s bottling units in Norway and Sweden, and later possibly its 83% stake in its large German bottling operations.

Bloomberg NewsCoke’s CEO called the proposed acquisition of its biggest bottler ‘a natural evolution.’ Above, a truck at a Coca-Cola Enterprises facility in Illinois.

COCACOLA

COCACOLA

The deal, valued at approximately $12 billion, won’t be accretive to Coke earnings until 2012. Once it’s completed, Coke’s company-owned bottling operations would make up about 50% of total company revenue, depending on which bottling assets are swapped, JP Morgan analyst John Faucher pointed out in a research note. “While we have argued that Coke would have to do this at some point, we think the short-term stock implications for Coke are negative,” he wrote.

CCE shares leaped 33% to $25.48.

The deal, expected to close in the fourth quarter of this year, marks a major change in a strategy the company has pursued in the U.S. since 1986, when CCE was formed as a large, publicly traded company separate from Atlanta-based Coke. It also comes as PepsiCo is expected to close acquisitions of its two largest independent bottlers, putting pressure on Coke to make a similar move to gain the same competitive advantages PepsiCo stands to reap.

Coke Chairman and CEO Muhtar Kent insisted in a conference call with analysts and investors that the move doesn’t mark an about-face on Coke’s part, despite his statements in recent months to investors that Coke stands by the model of selling its drinks through independent bottlers regardless of PepsiCo’s move. Instead, he called the proposed acquisition “a natural evolution” needed to address changing consumer tastes, as more people reach for nonsoda drinks that aren’t readily manufactured by bottlers or sold on the mass scale bottlers’ distribution systems are geared to handle. “Fundamental industry forces have altered the consumer, customer and competitive landscape,” he said. “Our franchise system cannot remain static. We have to create the next generation of high-return opportunities.”

Coke remains committed to channeling the bulk of its global sales through an independent bottling system, Mr. Kent stressed. Coke currently sells about 80% of its global volume through franchise bottlers, he said. Once the deal closes in the fourth quarter of this year, about 72% of volume will be sold through those bottlers, he said. “It’s still a very major part of our total volume.” Coke said it expects to reap $350 million in synergies from the deal over four years.

Mr. Faucher and other analysts predicted Coke and Pepsi’s deals will strengthen the beverage industry in North America by streamlining costs and spurring innovation and more flexible distribution of new drinks, potentially spelling lower prices and more choice for consumers. Coke and Pepsi can decide whether to distribute a product through the bottling system, which delivers products directly to stores and gives the company greater control over how its products are displayed, or through warehouses—cheaper and preferable for products too small or not profitable enough to distribute directly. PepsiCo’s $7.8 deal to acquire Pepsi Bottling Group Inc. and PepsiAmericas Inc. is expected to close Friday.

Owning their bottlers also gives Coke and Pepsi greater flexibility with retailers because they can negotiate deals alone, “not three or four different people calling on the same account,” Mr. Kent said in an interview.

“Coke couldn’t sit back while Pepsi delivered $600-plus million in synergies for reinvestment and then transformed its U.S. business model,” Bill Pecoriello, chief executive of ConsumerEdge Research LLC wrote in a research note Thursday.

Among the moves the companies might make, Mr. Pecoriello said, would be to start distributing cases of bottled water to supermarkets and other large retailers through warehouses rather than the more expensive direct-to-store system operated by the bottlers. That will help keep costs down amid stiff competition from private-label brands, he said.

It remains unclear whether Coke will hold onto the North American bottling operations over the long term. The company plans to put them into a subsidiary, along with its own food-service and other operations. Some speculated that the company would sell them to another big bottler, perhaps Coca-Cola Femsa, or carve them up among smaller independent bottlers in the U.S. Mr. Kent declined to outline an end game, saying only that “what we see in the landscape of the U.S. is a meaningful role for partnerships.”

The cost of the deal could rise as Coke will probably have to negotiate with Dr Pepper Snapple Group Inc. for the rights to distribute its beverages now sold by CCE. PepsiCo agreed to pay $900 million for the rights to sell Dr Pepper Snapple beverages currently distributed by its two big bottlers. Mr. Kent declined to comment on Coke’s plans.

Allen & Co. and Goldman Sachs Group Inc. advised Coke, as did law firms Skadden, Arps, Slate, Meagher & Flom LLP, Cleary Gottlieb Steen & Hamilton LLP and Wilson Sonsini Goodrich & Rosati. Credit Suisse Group and Lazard Ltd. advised CCE, with Cahill Gordon & Reindel LLP acting as legal counsel. Greenhill & Co. advised CCE’s Affiliated Transaction Committee, as did law firm McKenna Long & Aldridge LLP.

Dr Pepper Posts Profit; Shares Rise On Coke News

Dr Pepper Snapple Group Inc. posted a fourth-quarter profit, helped by wider margins, a 4% increase in sales volume and the absence of year-earlier restructuring charges.

The beverage company’s stock jumped on the earnings, news of a buyback and speculation that Coca-Cola Co. will likely have to negotiate a new distribution agreement in the wake of Coke’s plan to buy up its biggest bottler, Coca-Cola Enterprises Inc. The bottler is a big distributor of the Dr Pepper Snapple brands.

Previously, PepsiCo Inc. said it would pay $900 million for the rights to sell many of the Dr Pepper Snapple beverages bottled and distributed by Pepsi’s two big bottlers, after announcing deals to buy those bottlers. Dr Pepper could be entitled to a similar payout because of the changes at Coke.

On Thursday Dr Pepper Snapple said it expected the $900 million licensing deal with PepsiCo to be completed by the end of this month.

Meanwhile, Dr Pepper’s board authorized it to buy back about $800 million of its stock, raising the total buy-back authorization to $1 billion. The company’s market value is about $7 billion.

Shares of Dr Pepper Snapple rose 11% in Thursday trading to $31.83 on the New York Stock Exchange.

The maker of Snapple teas, Hawaiian Punch and Dr Pepper soda reported a profit of $114 million, or 44 cents a share, compared with a year-earlier loss of $621 million, or $2.44 a share, a year earlier. Prior-year earnings excluding the charges were 39 cents.

Revenue dropped 1.5% to $1.36 billion.

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