Investors looking at Coca-Cola Amatil Ltd (ASX: CCL) in recent months have rightfully been focussed on certain factors – the company's drive to reduce costs, SPC Ardmona, margin pressure from Woolworths Limited (ASX: WOW) and Wesfarmers Ltd (ASX: WES), and the Indonesian bottling business.
This is fine, but what about the big picture?
What's happening in the broader Australian beverage market?
Is Coca-Cola adequately catering to consumer preferences?
As Foolish contributors have covered recently, CCA shares look like a good purchase, while the company itself announced its intention to return to sustainable mid-single digit growth for the next few years.
Combined with another injection of funds into the Indonesian operations and Coca-Cola looks to be on solid ground for the next few years – but what about the long term?
There are three major risks (and three reasons for hope) that investors should watch out for:
- Competition from PepsiCo
Pepsi is distributed in Australia by Schweppes (owned by Asahi), and PepsiCo's local bottling operations are in India, giving PepsiCo a strong cost advantage.
This, combined with an aggressive volume sales strategy and Coca-Cola's 'premium' pricing are the reasons I believe Pepsi's products are invariably cheaper than comparable CCA beverages.
CCA's bottling operations in Sydney can't compete on cost, but there is reason to hope – CCA also has foreign bottling operations that could be stepped up to improve competitiveness.
This however will result in redundancies in Australia, which is a PR issue and may not be politically viable – particularly after the Victorian government and consumers stepped up to save SPC Ardmona at the end of 2013.
- Changes in consumer beverage preferences
Consumer shifts toward being more health-conscious have affected the beverage sector, with Coca-Cola noting its strongest growth is in beverages like juice, energy and waters, followed by zero and low-sugar soft drinks.
Coca-Cola and Pepsi have responded to preferences by increasing their varieties of non-cola beverages as well as issuing new products Coke Life and Pepsi Next which are both stevia-sweetened and contain ~60% of the sugar of their 'parent' beverages.
CCA also commenced sales of 'Barista Bros', a pre-mixed coffee and iced tea range that hasn't been successful thus far.
Management appears to be on top of shifting consumer trends, but it's also worth noting that as sales in Indonesia, PNG and Fiji soar, CCA is selling soft drinks to a rapidly growing number of consumers that aren't as health conscious. This is traditionally something that CCA does very well.
- A 'premium' pricing model
As referenced above, Coca-Cola has followed the strategy of making its beverages the most expensive in order to bolster margins. Theoretically this strategy targets people who love Coke and only drink Coke – charge them more and they'll pay it, because it's Coke, not Pepsi.
So far this seems to have worked, kind of, although margin pressure and falling case prices in Australia indicate that Coca-Cola prices are vulnerable.
With Woolworths set to renew its focus on offering competitive prices, and Wesfarmers already on top of that issue, there is a lot of pressure on the price Coca-Cola can charge for its products.
Speaking rationally, there's no reason to pay a premium for Coke when you can buy a cheaper, different-tasting but otherwise identical beverage from Pepsi's range. Naturally Pepsi is also trying to build a stable of beverage-loyal consumers, and future market share may actually depend more on how many consumers can be introduced to a company's products, rather than taste, price, and health benefits of those products.
Or to put it another way, the success of Coca-Cola's pricing strategy depends on it being the #1 most desired beverage, which in turn depends on two things – taste, and marketing.
To my mind Coca-Cola only has one truly unique beverage (Vanilla Coke), with the rest of its stable (Coke, Zero, Diet, Life) more or less matched by an equivalent Pepsi offering (Pepsi, Max, Diet/Light, Next). Thus, a good percentage of sales is up for grabs.
Thankfully for shareholders, management has flagged a major increase in marketing spend in order to strengthen CCA's consumer appeal.
