There's no doubt that Mondelez (NASDAQ:MDLZ) and Pepsi (NYSE:PEP) have been in the news together a lot lately. The companies have been linked together since activist investor Nelson Peltz took out large stakes in both companies. Earlier in the week, Peltz shared publicly some of his thoughts on the combination of the two companies. With Pepsi's strength in global snack foods, could Coca-Cola step in and steal away the company's thunder?
Peltz owned 12 million shares of Pepsi and 40.3 million shares of Mondelez at the end of March. On CNBC, Peltz went on the record saying he thinks Pepsi should buy the global snack giant for $35 a share. With his large stake in Mondelez, obviously Peltz would profit from the deal. However, Peltz is attempting to boost the share prices of both stocks he owns stakes in.
Peltz has been involved in several large food and beverage acquisitions. Peltz helped convince Kraft to split up into two separate companies. He was also the man behind splitting Cadbury up. Recently, Peltz split up restaurant giants Wendy's and Arby's into separate companies. The fact is Peltz has experience and knowledge in this industry.
In a newly released slide show, Peltz showcases his once private plans presented to Pepsi. Among the highlights is Peltz saying, "PepsiCo is destined to be viewed as #2 to Coke, despite snack foods compromising two-thirds of PepsiCo's value." Also for the first time, investors get a look at Peltz's two suggestions:
· Alternative A: Merge with Mondelez, creating a global snacks powerhouse. Use acquisition as catalyst to separate beverage, $175 implied value per share by the end of 2015 (only way for shareholders to capture up to $33 billion in cost synergies).
· Alternative B: Separate global snacks and global beverage into two standalone companies, approximately $136 to $144 implied value per share by the end of 2015 depending on whether PepsiCo spins all beverages, Americas beverages or North American beverages.
The slide show comes after rumors of a merger for several months. Peltz's interview on CNBC hinted that he would go public with his plans to unlock value. Peltz said on CNBC, "The problem with Pepsi has not been with management, it has been structure."
Pepsi chief executive officer Indra Nooyi has been reluctant to talk about a potential merger with Mondelez. In fact, Nooyi seems pretty confident in her own company surviving solo. Nooyi has said the company will continue with its "Power of One" campaign, which pairs Pepsi owned brands like Pepsi 2 liters and Doritos chips together in commercials. She also said the company will focus on small acquisitions.
Mondelez was recently spun off from food giant Kraft Foods (NASDAQ:KRFT). The company had $35 billion of net revenue in fiscal 2012 and is one of the largest food companies in the world. The company has nine $1 billion brands, which are Cadbury, Cadbury Dairy Milk, Milka chocolate, Jacobs, LU, Nabisco, Oreo, Tang and Trident. Here is a look at some other sales figures from Mondelez:
· Geographical sales (2012): Europe-39%, North America-20%, Asia Pacific-15%, Latin America-15%, EEMEA-11%
· Sales by food category (2012): 32% biscuits and snacks, 27% chocolate, 17% beverages, 15% gum and candy, 9% cheese and grocery
Mondelez is the number one global company in sales of biscuits, chocolate, candy and powdered beverages. The company also holds the number two position in gum and coffee. A deal with Pepsi would have a company with number one shares in several major food categories.
In a June presentation, Mondelez highlighted its advantage - its geographic footprint. The company has dramatically increased international sales with a series of local acquisitions. Those deals, along with entry of key brands into new markets, help emerging markets make up 40% of total sales. The company is forecasting revenue to grow 5% to 7% annually, while earnings per share will see double digit growth.
Pepsi is a global snack giant with its ownership of brands like Ruffles, Lay's, Doritos, Tostittos, Fritos, Cheetos, Quaker Oats, Rice A Roni, Aunt Jemima and Cap'n Crunch cereal. Here is a look at the comparison of food vs. drink for Pepsi (2012).
PepsiCo Americas Foods: $23.99 billion revenue, +4%
PepsiCo Americas Beverage: $21.41 billion revenue, -4.5%
The important thing to think about is operating margins. Pepsi's American foods segment makes up 36.6% of total revenue, but contributes 59.3% of Pepsi's operating profit. In comparison, the American drinks unit contributes 32.7% of revenue and 32.2% of profit.
With Pepsi's reluctance to enter a deal, I think another company could enter the mix. Coca-Cola (NYSE:KO), the dominant global drink giant, could enter the snack business by stealing Pepsi's thunder. Mad Money host Jim Cramer mentioned the idea on his show last week.
Coca-Cola is the number one drink company in the world. The company has the two best-selling global drink brands in Coke and Diet Coke. The company is also a leader in juices, bottled waters and energy drinks. Despite its global dominance, Coke has not invested in foods and relied heavily on its carbonated soft drink market, which continues to decline.
Just as Pepsi once recognized the need to diversify away from soda, Coke should use this opportunity to invest in Mondelez and become a global food and drink brand. Coke buying Mondelez may seem backwards at this point. After all, the reason Peltz is suggesting Pepsi should buy Mondelez is to separate its food and drink portfolios. However, I believe Coke can integrate food into its systems and increase operating margins and global distribution for several of Mondelez's brands.
Back in March, I highlighted a small acquisition completed by Coca-Cola. The drink giant bought Innocent, the leader in ready to drink smoothies in Europe. The company, which had the official smoothie of the London 2012 Summer Olympics, created a big opportunity for Coke as it was only in 15 countries. More importantly, the acquisition gave Coca-Cola a small entry into the food markets.
Along with smoothies, Innocent makes fruit tubes and veg pots. The veg pots, which have won awards for their design and creativity, have sold well in international markets. I highlighted the item in that article and mentioned that they could sell well in Whole Foods (NASDAQ:WFM), Trader Joe's and Costco (NASDAQ:COST). I also highlighted how Innocent could see dramatic sales increases if Coke's relationship with Subway could get the smoothies into stores.
I'm hopeful that the acquisition showed Coca-Cola management what food could do for its portfolio. After all, buying a food item that is only in 15 countries and allowing global distribution that reaches 200+ countries should boost sales. Who knows, in ten years we could be talking about Coca-Cola separating its food and snack businesses.
I'll take all of this a step further and say that if Pepsi splits its drinks business into a separate company, the deals won't be done. I believe Anheuser Busch InBev would make a play at the Pepsi drinks company. After all, chief executive officer Carlos Brito is a takeover artist who wants to control all drinks around the world. The other option I see happening is the separate Pepsi drinks group acquiring Dr. Pepper Snapple Group (NYSE:DPS). This deal would create more of a competitive drink giant against leader Coca-Cola.
There are several ways for investors to play a potential mega deal. Investing in Pepsi seems like the logical and possibly most rewarding option. Peltz believes shares of Pepsi could trade for more than 100% higher if Mondelez is purchased by the consumer giant. If Pepsi spins off its beverage division, shares could still trade higher than $130, according to Peltz. Of course if Pepsi sits still and does nothing, investors could decide to exit as a sign of little faith in Nooyi.
Shares of Mondelez will continue to rise on the possibility of a deal. Peltz believes Pepsi should pay $35 a share, representing a gain of 17% from the current $30 level. If Coke were to show interest, a bidding war could send shares higher. If a deal doesn't happen, investors in the global snack giant will still see exciting international growth and strong brand development. Shares of Mondelez have actually traded as high as $42.54 since the time of the spin-off, suggesting shares could trade higher than $35 in a buyout war or growth going forward.
Coca-Cola isn't as strong of an investment off of rumors. The second quarter earnings were disappointing and shares may have farther to fall before investors should buy shares. At this point, I would buy into both Pepsi and Mondelez and hope for a merger, buyout or divestiture from one of the companies.