Analyst fears for long-term health of PepsiCo beverages business
PepsiCo made an early public mention of its new strategy in June 2012 - it was first trialled last year - when PepsiCo Americas Beverages CEO, Al Carey, told investors that the firm’s CSD distribution model was upside-down.
Namely, Carey said, it relied on “shoving” 50% of annual volumes through its network to cover for the nine-week per year holiday period, at a 60% discount that also hurt rivals and retailers, since it encouraged bulk buying at low prices at this time.
PepsiCo has since sought to repair margins, and also (perhaps with a slighter longer-term view) sales in North America by incrementally narrowing the seasonal pricing gap for its carbonated soft drinks in some parts of the US, namely by raising holiday prices and lowering non-holiday prices.
Could PepsiCo be forced into U-turn?
But Bonnie Herzog, senior analyst, Wells Fargo Securities, said in a July 11 note previewing Q2 2013 earnings for several top beverage companies - Coke reported its Q2 2013 results today - that its improving snack business continued to support the North American beverages business.
“While PepsiCo’s snack business has continued to deliver, we remain concerned about the long-term health of the beverage business, particularly given the potential share losses if KO [Coke] continues to aggressively out-promote PEP’s [PepsiCo’s] hybrid pricing structure,” she writes.
PepsiCo was still threatened by falling share and volume in North America beverages, Herzog adds, but she warns that the soda giant may be forced to return to its previous pricing structure or cede shares to Coca-Cola, “neither of which would be positive in our opinion”.
“Although we are encouraged by the ‘hybrid everyday value’ pricing strategy recently initiated, we are skeptical about the long-term viability of it, particularly in light of KO's aggressive promotional behavior over the July 4 holiday,” Herzog wrote.
Coke’s more aggressive pricing strategy
Advising investors to remain on the sidelines until fundamentals improved, Herzog said Wells Fargo saw “little upside from here” without a meaningful catalyst to drive improvements in the near term.
Despite Coke’s over-exposure to challenged world markets, ongoing weaknesses in its low and no-calorie CSDs (especially diets) and more aggressive promotions to drive volume and share gains (at PepsiCo’s expense) also led Herzog to revise Q2 EPS estimates down to $0.63.
“We think the near-term margin pressure that could occur in this scenario, coupled with macroeconomic challenges in several key markets (Brazil, Western Europe) and categories (diet CSDs in North America) could put short-term pressure on earnings.”
But Herzog said Wells Fargo remained impressed by management’s ability to deliver strong bottom-line results despite difficult conditions.
“Furthermore, we believe potential upside remains if KO’s more aggressive pricing strategy leads to long-term share gains that would become meaningful as the short-term macro challenges resolve,” she added.
