April 4 (Bloomberg) -- Coca-Cola Co.’s investment has quickly driven bearish traders away from Keurig Green Mountain Inc. It will take a lot longer to see if Coke gulps down the rest of the coffee maker.
Coca-Cola bought 10 percent of Keurig in February and said the companies are working together to make a system for producing single-serve cold drinks. The backing of Coke, the $168 billion beverage maker that’s been around for more than 100 years, undermines bets that have been made by short sellers such as David Einhorn. Since Coca-Cola took its stake, shares of Keurig have risen 34 percent as short interest dropped.
While the $18 billion company is often pegged as a takeover target for soft drink makers as a way to reboot their slowing growth, it’s too early to determine whether this new product will be successful enough to draw an offer from Coca-Cola, Sanford C. Bernstein & Co. said. Coke has a history of taking equity stakes in companies that it acquires years later, as was the case with Zico coconut water and Honest Tea. If Coca-Cola wants to acquire Keurig, it’s more likely to bid if Keurig’s stock price comes back down, according to Albert Fried & Co.
“There’s been a lot of speculation for years,” Marc Riddick, a New York-based analyst at Williams Capital Group LP, said in a phone interview. “It’s something that could happen in the future certainly, but as it is right now, most of what the company has in front of them has to do with growing these new platforms.”
Coca-Cola is teaming up with Keurig as consumers increasingly shun sodas for alternative drinks, a trend that’s stunting Coke’s revenue growth. The Atlanta-based company purchased 16.7 million newly issued Keurig shares in February as part of the partnership, driving the coffee-maker’s stock to a record $123.74 that month.
“There’s a lot of speculation about what Coke’s intentions are with that stake,” Kenneth Shea, a food and beverage analyst for Bloomberg Industries in Skillman, New Jersey, said in a phone interview. “Coke has come under fire recently because of its underperformance in the U.S., so this is an easy way for it to get a greater presence in the household.”
Petro Kacur, a spokesman for Coca-Cola, said the company doesn’t comment on speculation, when asked whether it has any plans to increase its stake or acquire Keurig.
The portion of Keurig’s shares sold short shrank to less than 6 percent this week from about 20 percent at the beginning of the year, according to data compiled by Markit. The cost of options speculating on a rise in Keurig shares jumped to the highest in more than six years relative to those predicting a decline, data compiled by Bloomberg show.
Today, Keurig shares fell 0.6 percent to $107.85 at 9:39 New York time. Coke stock rose 0.3 percent to $38.17.
Keurig, which changed its name from Green Mountain Coffee Roasters Inc. last month, has been speculated as a takeover candidate for at least three years, in part because of its rapid growth from selling K-cup single-serve coffee pods and machines. Coca-Cola, Nestle SA and Starbucks Corp. have all been called logical buyers for the company in the past.
Coca-Cola took a stake in Zico Beverages in September 2009 and bought the rest of the company last November. It took three years for the world’s largest beverage company to turn its stake in Honest Tea into a takeover in March 2011, data complied by Bloomberg show. Both initial stakes were a fraction of the amount Coke spent on Keurig.
For Keurig, the bullish bets now are mostly because of its partnership with Coca-Cola, rather than expectations of a takeover, according to Sachin Shah, a special-situations and merger-arbitrage strategist at Albert Fried. Coke’s investment adds credibility to a company once heavily targeted by short sellers, Shah said.
On whether the Coca-Cola investment could be a precursor to an eventual acquisition, Bernstein’s Ali Dibadj said it’s possible, though he doesn’t see that happening right away.
“It’s really too early to tell how the single-serve cold system is going to turn out to be or even how the whole at-home drinks system is going to be,” Dibadj, a New York-based analyst at Bernstein, said in a phone interview. “In fact, it’s pretty early to tell whether Green Mountain’s going to be a winner.”
The best use of Coca-Cola’s time and resources is to grow its highly profitable global beverage business, rather than acquire Keurig, Jonathan Feeney, a Philadelphia-based analyst at Janney Montgomery Scott LLC, said in a phone interview.
“I don’t see Coca-Cola making that kind of financial commitment any time soon,” Feeney said. “A strategic partnership with an investment is the right move for them.”
Keurig’s capital-intensive business may be a poor fit for Coca-Cola, which has historically focused on selling high-margin syrups to bottlers, said Shea of Bloomberg Industries. Coke’s operating margin was 22 percent in the past 12 months, compared with Keurig’s 18 percent, data compiled by Bloomberg show.
Another obstacle in taking over Keurig is that it has relationships with other beverage makers, such as Starbucks and Dunkin’ Brands Group Inc., said Jack Russo, a St. Louis-based analyst at Edward Jones & Co.
To sell to Coca-Cola, “it would have to be a relationship that they would want to really narrow down and refine down,” Russo said in a phone interview. Still, “money talks. If the financial incentives are great enough, they might consider something like that.”
Coca-Cola may be more willing to open its wallet to increase its stake or buy the entire company if Keurig’s stock declined, Shah of Albert Fried said. Coca-Cola has the option to raise its stake to as much as 16 percent in the first three years of the investment, according to the company.
If the price falls, “then that could be the window that Coca-Cola might be looking for,” Shah said.
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