TALK ABOUT A DEAL!
The predecessor of Coca-Cola Enterprises (ticker symbol CCE) made one of the greatest deals of all time. It happened in 1889 when two lawyers from Tennessee paid $1.00 for exclusive rights to bottle and market Coke. They then divided the country up into regions and sold the rights to other investors.
Over the years a vast network of independent bottlers developed. Two of the largest were the JTL company and the bottling division of the Beatrice Companies. In the fall of 1986 the Coca-Cola Company (ticker symbol KO) borrowed 2.4 billion to buy both bottlers. Then management immediately packaged their new assets for an IPO and sold a 51% interest to the public for 1.5 billion.
For all its virtues the 1986 marriage of Coke and CEE was made in marketing hell. The battle between Pepsi and Coke for shelf space in supermarkets was punishing. And CEE was caught in the cross-fire.
Coke wants to be the best buy on the shelf because the lower its shelf price the more it sells. Of course, that means more syrup sales to its bottlers. CEE wants to maintain shelf price because that's the only way to keep its margins from shrinking. Who wins in this battle between shelf price and syrup volume?
When marketing people talk about "the" market they're referring to the company's products. When finance people talk about "the" market they're talking about the company's common stock. This is a telling example of the fundamental disconnect between marketing and finance within the enterprise.
The markets for stocks and products are separate but equally important to the enterprise. And until marketing and financial managers begin to talk about how one market affects the other, they're missing half the information they need to make sound decisions. A close look at the cola wars will show you what I mean. Want to know the theory behind this analysls? Check out Y'all Buckle That Seat Belt. This Adobe Connect slide show runs 18 minutes.
On the last trading day of 2005 CCE had a market capitalization of $9.1 billion. The company's sales revenues were $18.7 billion. On that same day in 2005 the Coca-Cola Company had a market cap of $95.5 billion. The company's sales were $23.1 billion. Pepsi (PEP) weighed into the fight with a market cap of $97.8 billion and sales of $32.6 billion. The market cap of all eight public companies engaged in the cola wars was 2005 was $207.6. The sales revenues of all eight companies added up to $79.8 billion.
SHARES IN TWO MARKETS
Now, we've got the data we need to take a first look at how the players in the cola wars are doing in both markets – we can easily calculate their share of market value and share of sales revenues. Comparing the results leads to surprising results.
CCE: 23% of sales and 4% of value -- a -19 point competitive disadvantage.
KO: 29% of sales and 46% of value -- a +17 point competitive advantage
PEP: 41% of sales and 47% of value -- a + 6 point competitive advantage.
A company's stock price is (approximately) based on investors' expectations about its long-run cash flow, discounted by its riskiness relative to the overall market and adjusted for competitive expectations. There's only one way CEE's market cap could be less than one-half of its revenues -- the main source of its cash flow -- while Coke's market cap was 4.1 times its revenues. Coke must be charging its bottlers monopoly prices for the syrup, thus squeezing their margins, earnings and cash flow while robbing shareholders of the forgone value.
ROBBING PETER TO PAY PAUL?
It looks like Coke's management is robbing Peter to pay Paul. Why would they do that? Well, Coke management probably would say that producing and distributing the drink is fundamentally less profitable than making the syrup. But it's more likely that in the trade off between shelf price and syrup volume, Paul has the upper hand. Coke has the power to exact a monopoly price premium from the bottling companies it owns as well as those it doesn't own.
Did it pay off? Sure looks like it did. Until you remember that Coke and its bottlers are married. And then you realize that this unhappy couple generates 52% of the sales revenues, but creates only 50% of the market cap! Combined, they have a -2 point competitive disadvantage, compared with Pepsi's +6 point competitive advantage!
This is just a small example of the dirty linens that surface when you examine the competition for customers and capital at the same time.