Will a Weak Quarter Deter Investors?

tarun is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Coca-Cola (NYSE: KO) reported its earnings last week with profits in line with the analysts' estimates, while revenue fell 3%. According to the company, sales declined due to poor weather conditions and floods in North America and in Europe, coupled with weak overall demand for sparkling beverages. Let’s try to look beyond bad weather to see if demand for the company’s products is waning.

In the most recent quarter, volume declined 4% for sparkling beverages in North America, which was offset by 5% volume growth in the company’s still beverage portfolio. It was the first time in 13 quarters that Coca-Cola saw a decline in its sparkling beverage business, which I believe is due to the negative publicity that soda companies are the cause for rising obesity and other health issues.

Coca-Cola has come up with counter advertisements, which state that rising health problems are due to consumption of excess calories from all the food we consume and not just soda. PepsiCo (NYSE: PEP) CEO, Indra Nooyi, has also condemned these statements as “maniacal,” which will badly affect the entire beverage industry. Whatever both the giants do to combat the effect of sparkling soda, the damage has been done.

In the past, Coca-Cola was fast in combating the negative news that was flashing against soda companies as to how cola can cause cancer. An article in NPR reported that Coca-Cola led the way by becoming the first in the beverage industry to eliminate the chemical 4-MEI from its drinks, which has been linked to cancer. It replaced 4-MEI with another chemical that is less abrasive. The shift raised the company’s image among loyalists, and this is what it is currently trying to do with the entire soda causes obesity hush.
 
Further, Coca-Cola also understands the shifting trends of the market and has been concentrating on their still beverages, which have reported 24 straight quarters of volume increase. The company’s still beverage portfolio saw 10% growth last year and is expected to grow in the same way this year. It’s still beverages such as Gold Peak, Smartwater and Dasani are doing good along with volume gains in the juice category driven by concrete growth for Simply and Minute Maid. Further, there has been a robust growth in the company’s ready to drink tea, which represents the strongest growth potential moving forward.
 
Though the company is majorly trying to increase its still beverage offerings, it still remains majorly concentrated on sparkling sodas, as they make 42% of their revenue from North America. Thus, both the beverage giants Coca-Cola and PepsiCo are testing low-calorie sweeteners to create sodas for the calorie and health conscious customers. Coca-Cola has tested a mid-calorie version of Fanta and Sprite sweetened with stevia, which is yet to be released. PepsiCo has also come up with a mid-calorie Pepsi NEXT, sweetened by stevia, which supposedly contains 30% less sugar.
 
PepsiCo’s advantage

PepsiCo, in its first quarter, reported an overall growth in organic revenues by 4.4% despite the recent pullback in domestic soda sales. However, almost two-third of the company's revenue from its beverage business accounts from non-carbonated offerings, a segment that represents tremendous growth potential as the North American population becomes more health conscious. More importantly, its non-carbonated segment also offers tremendous scope in emerging markets such as India, which offers almost 28 times more growth potential based on average consumption compared to a U.S. citizen.

Further, PepsiCo's real advantage is that it is equally as big a snack company deriving half of its revenue being the world's leading snack-food maker. Its dominance can be understood from the fact that it owns approximately 38% of U.S. salty snack retail sales, while, competitors Kraft Foods and Kellogg hold about 9% and 5%, respectively, of the U.S. snack market.
 
This company looks in trouble
 
Dr Pepper Snapple (NYSE: DPS) has a very concentrated portfolio like Coca-Cola, as practically all of its revenue is attributed from sale of sweetened beverages. Dr. Pepper is also introducing its "TEN" low-calorie drinks, such as 7UP TEN, A&W TEN, Sunkist TEN, RC TEN, and Canada Dry TEN to attract health-conscious customers, but it is yet to make a mark.
 
Moreover, the company’s ownership of Snapple (tea and juice) has also not been able to offset any decline in soda revenue, like Coca-Cola’s still beverage segments performance has been a relief for its falling sale of sparkling drinks. Further, the company’s Snapple sales have in fact declined 2%, which the company’s management has blamed on cold weather. With time, the company has improved its revenue and profits but its concentrated product portfolio with not much exposure in emerging markets definitely remains a cause of concern.
 
Final words
 
Coca-Cola has a history of combating all odds and coming out as a winner in the past which I believe is what we can expect from the industry bellwether in the future too. The company’s attempt to grow its business from still beverages and introducing more diet versions is a big step in the direction to keep its customers attracted. Further, the company has always returned cash generously to its investors, and in the last reported quarter, too, it paid dividends and purchased shares worth $4 billion.
 
PepsiCo on the other hand has a huge upper hand of having a concentrated portfolio towards growing its snack business without any major competition in the domestic market. It is also trying hard to maintain its revenue from the beverage business and is investing heavily in it to dominate the emerging markets. Both the companies have their own advantages and a great brand image to back their products and please their investors.


tarun bachhawat has no position in any stocks mentioned. The Motley Fool recommends Coca-Cola and PepsiCo. The Motley Fool owns shares of PepsiCo. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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