In February 2014, Keurig Green Mountain, Inc. (NASDAQ:GMCR) investors were provided with an unexpected bonus when the company released its quarterly earnings report. In addition to announcing an 8% earnings estimate beat, the company announced a completely unexpected partnership move with Coca-Cola (NYSE:KO) worth $1.25 Billion and a 10% minority stake in Green Mountain shares. The deal is a 10-year agreement to collaborate on the development and introduction of The Coca-Cola Company's global brand portfolio for use in GMCR's impending "Keurig Cold" at-home beverage system. Under the global strategic agreement, the two companies will cooperate to bring the Keurig beverage system to consumers around the world.
In May 2014, the company announced that Coca-Cola had already made a move to increase its stake in Green Mountain shares by an additional 6%, bringing KO's stake up to 16%. The increased stake in Green Mountain by Coca-Cola was accelerated through an advanced purchase agreement through Credit Suisse. Now owning a beneficial stake of 26 million shares, Coca-Cola will be purchasing an additional 6.5 million shares over the next 9 months. By doing so, Coca-Cola is now Green Mountain's largest shareholder.
The deal between the companies is significant in more ways than one. Coca-Cola has long struggled to return to a growth company, and sales have struggled in established markets for a long period. Meanwhile, Green Mountain has seen outstanding growth from its coffee brewers and K-cups, and that growth is expected to continue. The combination of Green Mountain brewer systems and Coca-Cola now brings an estimated $125 Billion global ready-to-drink product market into play for both companies. It is important for investors to know that the cold beverage market is 4 times the size of the hot beverage market. At just a 20% clip of the entire $125 Billion global market, Green Mountain would be set to increase its annual revenue somewhere between 3 to 5 times where it currently stands, in addition to its ever increasing revenue and earnings power from the coffee side of the house. Coca-Cola would be adding about 25% to their annual revenue. This is why the deal makes so much sense for both companies. Capturing just a small portion of the global ready-to-drink market, would be significant to the bottom line growth of each company.
The deal also brings a huge cash infusion to Keurig Green Mountain. With this huge cash infusion, the company could use these proceeds to buy back stock, increase its dividend for shareholders, and pay for capital expenditures related to the new cold brewing systems. The company could also pay off its $274 million in debt entirely. Doing any of these would create a much more valuable and healthy Keurig Green Mountain company.
As of late, there has been rumor that Coca-Cola would soon try to take over Keurig Green Mountain. A takeover would make complete sense on Coca-Cola's part, as it tries to return to a growth powerhouse in the marketplace. Already the largest shareholder of GMCR shares, Coca-Cola is sitting in the driver's seat with this option. Coca-Cola definitely has the resources to accomplish such a move. The real question is, does it make sense?
Investors appear to already be anticipating a takeover bid. In the past month, GMCR call options have had unusual trading volumes on two separate occasions. The first occurred on June 6th, and the second occurred on June 12th. Both events occurred with the lack of any news release by GMCR, and both days shares of GMCR surged higher in just a couple hours. With short interest in GMCR well off of its highs of 22% prior to the Coca-Cola deal, and now sitting just above 10%, the two surges in share price across both days could be attributed to some short covering, but it does not explain the unusual short-term call option buying activity.
Coca-Cola has a good history of moving quickly to take over companies that it has developed a majority stake in over the years. Also, a growing number of industry analysts have noted that Coca-Cola should spend less on advertising and more to diversify aggressively through acquisitions of companies. The Coke brand is known worldwide, and advertising dollars spent over the years have not increased sales of their product, so it makes perfect sense to grow through acquisition. By already being the major stakeholder in Keurig Green Mountain, and knowing that Coca-Cola has a history of buying out the companies they hold the majority stake in, it is clear why GMCR investors may be preparing for it to happen sooner than later.
Potential Keurig Green Mountain Takeover Price
A takeover of Keurig Green Mountain by Coca-Cola could come at a higher price tag, the longer Coca-Cola waits. GMCR has already raised its K-Cup forecast and earnings expectation for the year. The company has consistently been beating earnings estimates by about 10-15% per quarter on a regular basis. They are also preparing to launch a new brewer in the coming months, which should boost earnings power as well. If Coca-Cola were to take over Keurig, they could use their international sales channels to quickly develop a powerhouse for hot and cold beverage brewing capability. Based on the size of both the hot and cold beverage markets, and the earnings potential created for KO with a takeover of Keurig, such a deal could be currently worth up to $180 to $200 a share for GMCR. The longer Coca-Cola waits, the higher this price should continue to grow, as Keurig continues to expand operations and increase its earnings power. GMCR just recently announced another deal with Subway, and that they are opening a cold pod manufacturing facility in Georgia. It is clear that Green Mountain is moving forward for growth. This may be why the short-term call options activity is heating up and the short sellers are dispersing quickly from GMCR shares, because a takeover bid by Coca-Cola could, and likely should, come much sooner than anticipated. The stars sure seem to be lining up that a takeover bid for Green Mountain could be forthcoming.
Personally, I believe it has never been a better time to own shares of Keurig Green Mountain than right now. Even without a takeover bid by Coca-Cola, the company continues to expand its operations and earnings. The partnership deal with Coca-Cola alone puts the company on the doorstep for global expansion of its business that it currently does not have. The lack of a takeover bid hurts Coca-Cola more than it does Green Mountain. In fact, if the company makes another surprising announcement during their next earnings call, or in the near future, and announces its intent to institute a share buyback program, or institute a dividend increase in the near future, the share price will continue to rise and long-term investors will have a solid growth company for many years to come. Additionally, with all of the developments surrounding the company right now, I would definitely not recommend investors to be holding a short position in Green Mountain going forward either.
Disclosure: The author is long GMCR. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: I have been long GMCR since 2012.