Beverage Companies Face Watered-Down Industry Trends

A nyone searching for insight into the state of the nonalcoholic beverage industry should take a gander at last month's earnings from Coca-Cola, the global soft-drink giant that finds itself awash in challenges.

On the bright side,Coca-Cola ( KO ) beat consensus earnings and sales estimates when it reported second-quarter results on July 22.

The bad news: It still logged lower year-over-year revenue and EPS, even as the maker of Coke, Sprite, Fanta and Powerade slashed costs, boosted its spending on marketing and improved its pricing by offering drinks in more expensive minicans and glass bottles.

Coca-Cola shares fell following the report as investors chose to focus on a 7% decline in Diet Coke volumes -- which followed a 6% decline the prior quarter -- and lower revenue in foreign markets, rather than on an improvement in sparkling beverage volumes and a 3% gain in U.S. sales.

The Atlanta-based company's problems are a microcosm of problems facing other big names in the industry, includingPepsiCo ( PEP ) andDr Pepper Snapple Group ( DPS ).

All are struggling to deal with consumer tastes that are changing toward healthier beverages such as bottled water and organic juices, and away from sodas.

"The big trend in the U.S. is that we're seeing a continuing decline in carbonated soft drinks and good growth in noncarbonated beverages," said Morningstar analyst Adam Fleck.

That's also the case in most of the rest of the world, he says, though emerging markets like China hold potential for increased carbonated soft-drink sales.

"The consumption rates of carbonated drinks are really low in many of these markets, so there's more room to grow," Fleck told IBD. "Internationally, Coke really dominates the market because they have stronger relationships with bottlers outside the U.S."

Like Coca-Cola, PepsiCo has been hit by a downturn in consumption of soda products, though it has seen an uptick in sales of energy drinks and healthier beverage options such as flavored water. PepsiCo posted flat second-quarter earnings and lower sales, but beat estimates on both metrics.

There's no secret behind the shift from carbonated soft drinks to water.

"Customers have grown more health conscious and look to trade in their sugary soft drinks with healthier and more natural drinks, which bodes well for water," analysts at Trefis said in a report. "This is a trend that these large soft drink multinationals can't ignore."

Not surprisingly, the shift has benefited companies that specialize in noncarbonated beverages. One of them isMonster Beverage ( MNST ), which makes energy drinks, fruit juices, smoothies and natural sodas under the Monster, Hansen's, Blue Sky and Junior Juice brands.

Monster Beverage has run off seven straight quarters of double-digit earnings growth. Sales have risen by double-digit percentages four times over the same period. The company boasts a best-possible IBD Composite Rating of 99, and its stock price set a record high of 149.76 on July 23.

In contrast, Coca-Cola and PepsiCo -- two of the world's most recognizable brands -- continue to flounder financially.

Coke has grown quarterly revenue only once in the last 10 quarters. PepsiCo, which also has a large food business, has posted lower or flat revenue four times in the last six quarters.


News reports Friday saidCoca-Cola Enterprises ( CCE ), based in Atlanta, but which bottles Coke products in Western Europe, was in "serious discussions" regarding a deal with Spain's Coca-Cola Iberian Partners and Coca-Cola Erfrischungsgetränke, in Germany, according to the Financial Times. The talks, underway for nearly a year, aim to streamline and cut production costs among soda makers.

It follows guidance of Muhtar Kent, chief executive of the Coca-Cola Co., who has pressed Coke's bottlers to consolidate and help trim his company's costs, the Times reported. The news sent Coca-Cola Enterprises shares up 14%.

The term "nonalcoholic beverage makers" pretty much describes what these companies do: make and sell nonalcoholic beverages, sold in cans, bottles or in quantity to stadiums, bars, restaurants, etc.

The main differences lie in the types of products they produce. Coca-Cola, PepsiCo and Dr Pepper Snapple are best known for different versions of their iconic soft drinks, though each also makes bottled water and noncarbonated beverages.

National Beverage (FIZZ) also makes multiflavored soft drinks as well as juices, water drinks and other products. Monster Beverage specializes in 21st Century-friendly beverages such as energy drinks and smoothies.

IBD's Beverages-Non-Alcoholic group features 17 stocks and ranks No. 17 out of 197 industries tracked by IBD. The group is up about 30% since the beginning of the year, and has largely held to within the top 50 rankings since January.

The biggest player in the group by a long shot is Atlanta-based Coca-Cola, with 2014 revenue of $46 billion and market capitalization of $176.9 billion. Second-largest, Mexico-basedFemsa (FMX), distributes Coke products in Mexico and other Latin American countries. It had 2014 revenue of $20.5 billion and market capitalization of $19.5 billion.

PepsiCo's revenue is bigger than at either of those companies. Its 2014 revenue was $66.7 billion. Its market capitalization is $142 billion. But it belongs to IBD's Food-Packaged group because a big chunk of its sales come from food businesses such as Frito-Lay and Quaker Oats.

Names that don't appear in the group, or on the U.S. stock market, include Austria-based energy drink leader Red Bull. The privately-owned company held the largest share (43%) of the U.S. energy drink market in 2014, according to CaffeineInformer. It reported $5.5 billion in 2014 sales. Monster held 39% of the market. Also privately-held Rockstar holds the third place slot, with 10% of the market.

2. Market/Climate

According to the American Beverage Association, nonalcoholic beverages represent a $141.22 billion market in the U.S. That includes sales of soft drinks, sports drinks, bottled water, energy drinks, juices and juice drinks, as well as ready-to-serve teas.

Another industry tracker, Beverage Marketing Corp., reported that U.S. sales of nonalcoholic beverages rose 2.2% in volume last year. This was the fastest growth rate since 2006. U.S. bottled-water consumption led that increase, rising 10.87 billion gallons in 2014, up 7.3% from the prior year.

Coca-Cola boosted its shoe size in the energy drink market a year ago, paying $2.15 billion for a 16.7% stake in Monster. As part of the deal, Coke acquired Monster's Hansen natural Sodas and Peace Tea, and agreed to aggressively expand Monster's distribution footprint.

In return, Monster gained Coke's energy drink brands, including NOS and Full Throttle. Coke also agreed not to acquire more than 25% of Monster within the next three years. Analysts have long considered Monster a Coke takeover target.

Meanwhile, sales of soda are on the wane. Beverage Digest estimated that U.S. per-capita consumption of carbonated soft drinks in 2014 fell to its lowest level since 1986. According to one projection, bottled water sales in the U.S. could pass soda sales by 2017.

Globally, the shift should happen a lot quicker. A research report from Trefis notes that packaged water is expected to overtake carbonated soft drinks as the most consumed beverage worldwide this year.

Citing data from Canadian, an industry researcher, Trefis said worldwide consumption of packaged water is expected to reach 233 billion liters in 2015 vs. an estimated 227 billion liters of carbonated soft drinks.

3. Outlook

Although sales of carbonated soft drinks are declining globally, emerging markets such as China hold potential for near-term growth in soft-drink sales.

"Sales in China have been growing well because it has an enormous population but low per-capita consumption," Fleck said. "As income increases, we expect to see consumption increase."

Unfortunately, the strength of the U.S. dollar vs. other currencies means a rise in overseas sales of both carbonated soft drinks, bottled water and other beverages doesn't necessarily mean a big boost in profits for beverage makers.

In a recent report on Coca-Cola, JPMorgan analyst John Faucher noted that for the current quarter, Coke said foreign currency exchange "will be a -7% headwind on revenues, -13% on operating profit, and roughly -10% on pre-tax income."

On a more positive note, the industry is getting a leg up from the favorable pricing that comes from innovations such as minicans, analysts say, as well as from higher consumption of higher-margin organic juice drinks and other health-oriented beverages.

The market for energy drinks has been occasionally rattled by health concerns, primarily related to caffeine intake among consumers who are either young or in ill health. The Food & Drug Administration has been largely quiet on the issue since 2012, although the World Health Organization did issue a warning in October recommending sales and marketing caps to protect children from dangerously high doses of caffeine.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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