On Thursday, shares of SodaStream (NASDAQ:SODA) were halted after tripping the circuit that identifies a stock as having abnormal transactional volume and velocity in one direction. This action was the result of a Bloomberg article that cited that SodaStream was in talks with a private equity fund. No sources were identified under the cloak of maintaining private talks.
If we review previous rumors surrounding SodaStream and potential acquires we come to find that the channel for floating such publications is rapidly dwindling. Last year, a Calcalist (Israeli publication) reporter published an article touting Pepsico (NYSE:PEP) participating in talks to purchase SodaStream at nearly $2.5bn or roughly $95 a share. What made this rumor so conspicuous is that Calcalist went so far as to name Goldman Sachs (NYSE:GS) (owners of SODA shares at the time) as the underwriter of the proposed acquisition. Of course, nothing came of this rumored acquisition.
Earlier this year, Calcalist floated another rumor that SodaStream was in talks with Starbucks (NASDAQ:SBUX), Pepsico or Dr. Pepper Snapple Group (NYSE:DPS). Again and as usual, no sources wished to be identified other than the ubiquitous, "sources close to the company". With nothing coming from this rumor, less than a month later Bloomberg and Globes (Israeli news publication) floated the next rumor, which reduced the participating acquires down to just Starbucks. As is always the case, nothing became of this specific rumor either.
What made these rumors in the past so improbable is that they seemingly defied logic. Sure, as investors we are in the business of proposing that anything is possible internally, but if we really are performing due diligence and assessing risk through logical exploration, shouldn't we look for statistical probability first and foremost. Is it possible for SBUX, DPS or PEP to acquire SodaStream? Absolutely and I can even point to great synergies from the acquisition! With that said, the probability is quite low. Both Starbucks and Dr.Pepper Snapple Group currently have long-standing partnerships with Keurig Green Mountain (NASDAQ:GMCR), a proposed entrant in the home carbonation category who will likely offer co-branded products on their future Keurig Cold platform from both SBUX and DPS and for less than $1bn. In terms of pure need, neither company needs to spend a $1bn to gain access to the home carbonation category given this relationship with GMCR. Additionally, I don't know how prudent it would be for Starbucks, brand new to the cold beverage category, to align itself with a competing product to the Keurig Cold given the stated partnership Keurig Green Mountain has with Coca-Cola (NYSE:KO). If I were Starbucks and I knew I could benefit from my current partner's entrance into the home carbonation category, I think that is the viable way to progress. I'm sure Keurig and Coca-Cola wouldn't take too kindly to Starbucks would they have partnered or acquired SodaStream. But, as stated in the beginning of this paragraph, anything may be possible, but probable is usually where the action leans toward.
Since we are on the topic of Starbucks and home carbonation, let's dive a little deeper into that topic. I don't currently have enough fingers or toes to count how many articles have sited or pitted SodaStream versus Starbucks in the home carbonation category since the Fizzio product line has gained greater media attention. If we start at the beginning, we come to realize the category for which SodaStream has invented, innovated and built is called the "home" carbonation category. It is not called the "restaurant" carbonation category which is where one can buy a Fizzio beverage and not a Fizzio machine. The logical takeaway, if one was to believe that the Strabucks Fizzio was a competitor to SodaStream's home carbonation category, would be to believe that every time a McDonald's (NYSE:MCD) opened and employed a Coca-Cola brand fountain machine in a new restaurant, this would also compete with SodaStream in the home carbonation category. I'm sure McDonalds is opening dozens of locations weekly and has been for decades and for some reason nobody has ever drawn the competitive comparison that is being drawn between SodaStream and the Fizzio. Home and restaurant are two different locations and kindly forgive the elementariness of the statement, but unfortunately some well established media outlets actually publish such a competitive notion existing.
Getting back to the most recent rumor reported by Bloomberg that would make this the second rumor the publication has proliferated. Now that nothing has taken place between SodaStream and any of the named beverage producing companies we are left with private equity as a potential acquirer. Let's explore the logic suggesting that SodaStream would sell itself at $40 a share shall we? Firstly, at $40 a share the Board, management and any agreeing shareholder of consequence would basically be "throwing in the towel" and admit defeat and prospective failure on the horizon. Hardly the vote of confidence I would think a private equity firm would be looking for if one looks at revenue growth rates and the potential cash flow in the future. Which brings me to that very point. Private equity scours companies for the most glaring "green flag", cash flow. If you have cash flow you go to the top of the private equity list of potential acquisition. Presently, SodaStream has no free cash flow. Any cash the company generates quarter-to-quarter goes directly to its Capex needs. Sure, these Capex needs will be reduced next year, but it will take a couple years before the prospective cash flow is of any consequence for a company with revenues of just over half a billion dollars. Logic simply isn't there with regards to private equity being the acquirer of speculation. It will take SodaStream a few years before they see anything in the $100mm free cash flow range.
So let's look at recent events that might prove to displace the private equity takeover rumors. Back in the middle of June 2014, SodaStream's CEO sold over 68,000 shares of stock, roughly 10% of his stake in SODA and for $35 a share via Oppenheimer Israel with the headline coming through the Bloomberg wire on June 17, 2014. Does it seem likely that the CEO of SodaStream would be selling shares with the company contemplating a takeout at $40 a share. Maybe Daniel Birnbaum didn't need the extra $5 per share right? Again, the logic just doesn't seem to be there.
Moreover, Yonah Lloyd sold 1,500 shares a month earlier than Daniel Birnbaum for roughly $37 a share and has since resigned from his position to take a lateral position at Mobileye, an Israeli car safety company. I wonder what Mr. Lloyds new boss would think of his new executive leaving his former employer with a pending takeover at a higher price than where his employee sold his stake in the company? But again, maybe Mr. Lloyd didn't need the extra $3 per share. At least his stake was significantly lower than Mr. Birnbaum's. So basically we have to believe that both company executives, inclusive of the CEO, don't value their compensation package all that much. Logic supporting the notion of a private equity takeover is about to get a whole lot worse.
In the last 45 days, Citigroup (NYSE:C), Morgan Stanley (NYSE:MS), Goldman Sachs , Bank of America (NYSE:BAC), Wells Fargo (NYSE:WFC), Royal Bank of Canada (NYSE:RBC) and Credit Suisse all liquidated total equity exposure to shares of SODA (as reported through paid subscriptions to Morningstar). Last I recall, all named parties are investment banks and all named parties partake in the business of underwriting for equity transactions that include private equity acquisitions. So what we need to believe, based on Bloomberg's report, is that none of these investment banks, not a single one would have had a hand in the potential private equity acquisition… not one. None of them were contacted to undertake the due diligence aspect of assessing value for existing and future assets with the inclusion of a new manufacturing facility which cost SodaStream over $100 million. Maybe we are to believe that all were contacted, but in the best interest of maintaining an unbiased participation in such a deal, they all sold their equity positions and lower than the proposed takeover price? They all sold lower than the proposed takeover price; does that sound logical?
In absoluteness, I firmly concede that "most" things are possible, but the probability is what investors should concern themselves with when making investment decisions. This is especially prudent when doing so under the guise of a proposed acquisition and after 3 failed, to date, previous proposed acquisitions. In closing, let's take a look at what Deutsche Bank's analyst covering SodaStream suggests about the topic at-hand:
In the view of analyst Bill Schmitz Jr, a deal would be difficult.
"With more company takeout chatter hitting the tape around earnings, which should remain lackluster, we believe a private equity deal, while not impossible, should be difficult," said Schmitz.
"The company's balance sheet could handle a fair bit more debt based on current operating metrics, but with fundamental outlook uncertain and EBITDA to base a leverage ratio on a moving target, we believe financing could be difficult. Moreover, with the bulk of the company's manufacturing operations in the West Bank, geopolitical risks also need to be considered. From a tactical view, company could dramatically improve its profitability in a private context by gutting advertising spending and G&A costs to boost operating profit, but at some point sales need to stabilize since cost saves cannot accrue in perpetuity and there needs to be some comfort that the core installed base in the US and Europe is sticky and willing to continue to participate in the strongly mix accretive CO2 canister exchange program. Moreover, the company's head of Corporate Development and Communications recently left the company to pursue another opportunity, which is curious relative to potential transaction because one would think he would want to stick around for the change of control provisions normally associated with a transaction," continued the analyst.
Disclosure: The author is long SODA, PEP. 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.