If Nelson Peltz gets his way, shares of PepsiCo, Inc. (NYSE:PEP) could double. The billionaire investor, known for his activism, laid out the case for PepsiCo, Inc. (NYSE:PEP) on Wednesday at CNBC’s Delivering Alpha conference.
So, should investors buy into PepsiCo, Inc. (NYSE:PEP)?
Peltz thinks PepsiCo has some problems
Peltz’s basic argument is that PepsiCo, Inc. (NYSE:PEP) has some fundamental organizational problems. Although he claims to be a big fan of PepsiCo’s current CEO Indra Nooyi, he believes that PepsiCo is limited by its conglomerate status.
When most people, including the analysts that follow the company, think of PepsiCo, they think of the namesake beverage. According to Peltz, that’s a mistake — Frito-Lay makes up the vast majority of the company’s value, and accounts for nearly all of its potential growth.
Peltz believes Pepsi’s management is “robbing Peter to pay Paul” in the way that the company is inappropriately shifting funds from a high-growth division (Frito-Lay) to a low growth one (carbonated beverages).
Even if Pepsi doesn’t want to buy Mondelez International Inc (NASDAQ:MDLZ), Peltz still thinks investors would be better served by splitting the company in two. In that scenario, Peltz imagines the stock hitting $145 per share.
It would benefit PepsiCo to buy Mondelez
Peltz has a big stake in Mondelez — and that’s putting it mildly. As of his fund’s last 13F filing, over a quarter of Peltz’s capital was in Mondelez stock.
Since the spinoff was completed last October, Mondelez’s stock has performed moderately well, rallying about 10%. But, as Peltz points out, the company has had trouble with its margins. So is Peltz just looking to get Pepsi to buy so he can unload his shares?
Stifel Nicolaus analyst Mark Schwartzberg believes buying Mondelez would be good for Pepsi. He argued that it would add to Pepsi’s earnings almost immediately — 20% in the first year.
But is Pepsi going to actually buy Mondelez? Maybe The Coca-Cola Company (NYSE:KO)?
At this point, it’s a stretch to assume any deal is forthcoming. Peltz admitted (from talking to Pepsi’s management) that the company isn’t particularly enthralled with his idea, and Schwartzberg agrees, seeing no evidence for such a merger.
CNBC’s Jim Cramer suggested that there could be another buyer for Mondelez: the other major beverage giant, The Coca-Cola Company (NYSE:KO). However, Schwartzberg (who also covers Coke) doesn’t think that’s likely at all, and it wouldn’t fit Peltz’s logic.
Peltz’s premise is that there are business synergies to be gained by combining Pepsi’s salty snacks with Mondelez’s sugary sweets (Oreos, Cadbury, etc). In fact, Peltz wants Pepsi to separate the beverage business into a more Coke-like entity.
Peltz admits that the soda business is in secular decline, but he believes that PepsiCo’s beverage unit would have value if it was run primarily to return as much cash as possible to shareholders.
Of course, as I’ve written previously, that sort of thinking does not bode well for Coke’s stock. Unlike Pepsi, Coke is primarily dependent on its soda. As soda consumption seems likely to fall (brought on by the push to fight obesity as well as the organic movement) The Coca-Cola Company (NYSE:KO)’s business is in danger.
Granted, Coke still yields a fairly solid 2.7% dividend and gets more than half of its revenues from overseas, but if you aren’t a believer in the soda industry, it’s hard to be bullish on a soda company.
Investing in PepsiCo and Mondelez
Peltz has a long history of pushing companies into action. Given that he has large stakes in both Pepsi and Mondelez, there’s a fair chance that something might happen, although Peltz’s idealistic scenario should not be accepted as a given.
The more conservative play would be to buy PepsiCo stock alone. Schwartzberg thinks there’s evidence that, even without Peltz’s pushing, Pepsi could be about to split itself up into two companies anyway. That would create significant shareholder value on its own, by disentangling two companies growing at different rates.
Buying into Mondelez is a much more aggressive play, with limited upside. Even if Pepsi did buy the company, Peltz thinks a fair price would be around $35. That’s a premium of less than 20%, which might not be worth the risk if no deal takes place.
At any rate, investors interested in these two companies should be aware that acquisitions and spin-offs of some sort could be coming.
The article PepsiCo Shares Could Double originally appeared on Fool.com and is written by Salvatore “Sam” Mattera.
Joe Kurtz has no position in any stocks mentioned. The Motley Fool recommends Coca-Cola and PepsiCo. The Motley Fool owns shares of PepsiCo. Salvatore “Sam” is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.
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