When it comes to the soft drink industry, there are essentially two major players: Coca-Cola (NYSE:KO) and PepsiCo (NYSE:PEP) with Dr. Pepper/Snapple Group (NYSE:DPS) acting as a distant third. Recently, Monster Beverage Corporation (NASDAQ:MNST), also known as Hansen's Natural, has experienced high growth and with a $10.4 billion market cap, has surpassed Dr. Pepper/Snapple in value. In this article, I explain why Monster Beverage shares are doing so well and what it means for the company and the soft drink industry going forward.
The soft drink industry is extremely concentrated (no pun intended) because of distribution. Supermarkets want to deal with only a handful of suppliers for a limited number of stock keeping units, and restaurants generally only sell one company's beverages. To have a larger retail footprint and more negotiating leverage, brands tend to buy each other up. Pretty much anybody can make and bottle a beverage, but getting companies and distributors to put your beverage on shelves and then getting the right amount of that beverage to each buyer at the right time is the tricky part. Monster has successfully gotten its products to shelves. In 2011, 64 percent of its sales were to distributors, and 20 percent were outside the United States.
Monster's high P/E ratio of 38.8 stems from two sources: its high expected growth and its potential to be acquired. The company is expected to experience earnings per share growth of 24.8 percent in 2012 and 19.4 percent in 2013, giving it a forward 9 month and 21 month P/E ratio of 31.17 and 26.11, respectively. These are still very high compared to the current P/E ratios of 19, 16, and 14 for Coca-Cola, PepsiCo, and Dr. Pepper Snapple, respectively.
Monster makes such a great acquisition target for two reasons: it already has a strong brand and it has a very narrow product line. The company made $1.7 billion in revenue in 2011. On its corporate website, it lists five major brands: Monster, Hansen's Natural, Peace Tea, Worx Energy, and Blue Sky. With so few products and only one with wide-spread appeal, Coca-Cola or PepsiCo could purchase Monster Beverage Corporation without having to worry about an anti-trust suit. I believe that Coca-Cola could very likely buy Monster. Coke has over $22 billion in cash, short term investments and long term investments. It bought Glaceau in 2007 for $4.1 billion cash, and Monster uses Coca-Cola bottling companies for some of its distribution. PepsiCo does not have enough liquidity to buy Monster for cash, but could certainly make a high bid to make an acquisition difficult for Coca-Cola.
Right now, I believe that Monster Beverage Corporation is priced at a very fair value with its potential growth and its status as an acquisition target. Buying MNST at this point is more of a speculation play. If Monster gets acquired soon, and the deal goes through successfully, investors can make a 10 percent to 20 percent profit. However, if the company does not get acquired within the next three to four years, investors could face losses of up to 30 percent. I think that Monster has about a 50 percent chance of being acquired in the next two years.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.