PepsiCo, Inc. (NYSE:PEP) is rumored to be in talks to purchase SodaStream International Ltd (NASDAQ:SODA). The deal would be an expensive but interesting way to gain a new business line. And The Coca-Cola Company (NYSE:KO) probably couldn’t pull it off as well.
Fickle consumers
The beverage business is a tough one. It is dominated by two companies, but has many smaller players. Although there are notable barriers to entry, consumers have a tendency to get bored with existing fare. That leaves them flitting from hot product to hot product. Every time a new fad comes along, the industry bellwethers have to ape the new product or buy their way into the emerging sector.
PepsiCo, Inc. (NYSE:PEP) famously bought Quaker Oats for over $13 billion to gain control of Gatorade when sports drinks were the rage. That said, the other brands and products that came with that purchase have probably provided as much benefit over the long-term as Gatorade has, deepening and diversifying the food giant’s reach inside the grocery isle.
A hot product
Right now, one of the hot products is Sodastream International Ltd (NASDAQ:SODA). The company sells a machine that carbonates water and a collection of drink flavors. Carbonating water isn’t new, soda siphons have been around for ages. However, building a system around this old technology has fascinated customers.
Although coming from a small base, sales and earnings have more than doubled over the past three years to $436 million. The stock, meanwhile, went from the mid-$20s at its IPO to over $70 a share within a year. It fell back to the $30 range just as quickly, but is again in the $70s after a run that started late in 2012. Its trailing P/E is over 30, though doubling earnings in three years suggests that valuation isn’t outlandish. But only if impressive growth continues.
Fad or real?
Sodastream International Ltd (NASDAQ:SODA) looks in some ways like The Singing Machine, which sells karaoke devices. Although its sales never took off like SodaStream’s, it latched onto a fad and its stock ran up on that alone. After trading in the $30 to $40 range, the stock is currently selling for less than a dollar a share. If SodaStream is little more than a fad, it isn’t worth $70 a share and there’s notable downside risk here for investors.
Rumors
Reuters recently reported on rumors that PepsiCo, Inc. (NYSE:PEP) was looking to buy Sodastream International Ltd (NASDAQ:SODA) for $2 billion. PepsiCo has stated there’s no truth to the rumor. However, PepsiCo is the perfect company for such a deal.
Partly because of the Quaker purchase, PepsiCo, Inc. (NYSE:PEP) has a widely diversified product portfolio. Although selling devices is a little outside the company’s focus, selling the consumable syrups would fit right in. Moreover, it would give PepsiCo another avenue for entering people’s homes.
And with the marketing heft of PepsiCo, Inc. (NYSE:PEP) behind it, Sodastream International Ltd (NASDAQ:SODA) could find itself going mainstream. It isn’t too far fetched to suggest that, with the right backing, SodaStream could experience at least a portion of the success that the Keurig coffee system has seen. Imagine if PepsiCo was able to get soda competitors to sell syrup for the machine. It could be a massive business opportunity.
Not needed
For sure, PepsiCo, Inc. (NYSE:PEP) doesn’t need Sodastream International Ltd (NASDAQ:SODA). The company earned $65.5 billion in 2012. Adding SodaStream’s revenue would be little more than a rounding error. The allure of a hot new drink fad, however, might make it worth the effort. And The Coca-Cola Company (NYSE:KO) would have a harder time pulling off such a deal because of its clear focus on drinks.
That isn’t to say that Coca-Cola couldn’t buy Sodastream International Ltd (NASDAQ:SODA), just that it doesn’t have as deep relationships with grocery stores and other outlets. Even though the rumor is that SodaStream wants to pit the two beverage giants against each other, The Coca-Cola Company (NYSE:KO) has purposely tried to remain focused and selling small appliances is just too far afield.
Part of that focus is because of the impressive profit margins in selling glorified water. Indeed, Coca-Cola’s profit margins are in the low 20s while PepsiCo, Inc. (NYSE:PEP)’s tend to be in the low teens. SodaStream, meanwhile, had a profit margin of just 10% in 2012.
Long-term buys?
Sodastream International Ltd (NASDAQ:SODA), as a stand alone company, is too risky for most investors. Momentum types might like the fad nature of the stock, but a keen eye will be needed to figure out when to jump ship. PepsiCo, Inc. (NYSE:PEP), meanwhile, is a great company with or without SodaStream.
It is important to keep in mind that PepsiCo is much more than just a drink company, however, because that gives it a leg up on The Coca-Cola Company (NYSE:KO) for those seeking diversification. Both recently yielded around 2.80% and have long histories of annual dividend increases. So, in many ways, that diversity is the biggest difference between the two. That said, investors seeking direct exposure to beverages would be better served with Coca-Cola.
Reuben Brewer has no position in any stocks mentioned. The Motley Fool recommends Coca-Cola, PepsiCo, and SodaStream. The Motley Fool owns shares of PepsiCo and SodaStream.
The article An Opportunity in Soda originally appeared on Fool.com.
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