Green Mountain Coffee Roasters (NASDAQ:GMCR) soared over 20% higher on news that it would partner with Coca-Cola (NYSE:KO) to develop a cold beverage machine that would allow consumers to make their favorite Coke products at home. The deal also involved Coke taking a 10% stake in Green Mountain, agreeing to buy over 16 million newly issued shares for about $75 apiece. If this price strikes you as low, it's probably because GMCR shares are now trading for over $100. This implies that new investors are willing to pay more than $25 more per share than Coca-Cola is, which doesn't really make much sense since they are paying a premium for the right to be diluted.
Furthermore, the company says in the 8K filing that in addition to being used for additional capital expenditures related to the new Keurig Cold brewing system, the funds raised will also be used to expand GMCR's buyback program in order to reduce the effect of this dilution. Notwithstanding the fact that this implies there is still quite a bit of development work before the new system can be rolled out, selling shares for $75 and then buying them back for over $100 doesn't make much sense. It certainly doesn't reduce dilution, if anything it guarantees it since there will still be more shares and less cash even after executing the buyback.
Therefore, rather than any immediate financial benefit from the deal, the huge pop in the stock was more likely a short squeeze as a result of a trusted company like Coca-Cola blessing the company's stock with their strong brand name and alleviating concerns from short sellers, notably David Einhorn, that some of GMCR's accounting practices were suspect.
Still, some analysts were quick to attribute significant earnings potential to the deal, with KeyBanc's Akshay Jagdale predicting almost $3.50 in additional earnings over the next 3 to 5 years even though we don't know how close the product is to launch or whether it will achieve widespread adoption. This equates to over half a billion dollars in potential earnings even assuming GMCR's current undiluted share count of 149 million. This plus the over $3B in market cap that Green Mountain added today implies that there is huge potential in the home soda making space, but it should be pointed out that this is over 4 times the entire market cap of SodaStream (NASDAQ:SODA), which of course already has a home carbonation system on the market.
Even if the Coke/Green Mountain tie-up were to take 50% market share from SodaStream, the additional earnings expected and associated increase in market cap suggests this is a multi-billion dollar sales opportunity with annual profits of at least a hundred million just for GMCR alone, more than double what SodaStream is expected to make each of the next few years. Clearly, either investors and analysts are overestimating the size of the market or underestimating SodaStream's ability to defend its prevailing position.
While additional competition might be expected to reduce SodaStream's margins, Coke's foray into the space certainly would help push the home soda trend from perceived fad into the mainstream, which might actually benefit SodaStream. This was somewhat reflected by SodaStream also rising in concert, although not quite to the extent of GMCR. Investors seemingly expect Coke rivals such as Pepsi (NYSE:PEP) and Dr. Pepper (NYSE:DPS) to be driven to SodaStream as a way to parry Coca-Cola's shift in strategy. I agree that this is fairly likely, since by moving quickly they could actually beat Coke to market since SodaStream already has a viable system.
This would help give a much needed boost to SodaStream sales, which were much lower than expected this holiday season, and just the derivative attention received by the company today probably gained them more visibility than its recent Super Bowl commercial featuring Scarlett Johansson. Therefore, I would avoid the hype lavished on Green Mountain Coffee Roasters today, since it far exceeds the actual results that are likely to be realized by its new product anytime soon, and instead focus on the company that already has a solution that is now likely to achieve additional attention from not only consumers, but also Coca-Cola's competitors.