Canada’s Cott Beats Coke and Pepsi as It Swaps Soda for Water

Cott Corp. stock is beating its North American peers including Coca-Cola Co. and PepsiCo Inc. as the Canadian beverage maker diversifies away from sugary soft drinks to cater to health-conscious consumers.

Investors are banking on Cott’s ability to increase profits after the provider of private-label soft drinks to companies such as Wal-Mart Stores Inc. became the biggest publicly traded water supplier to U.S. homes and offices.

While consumption of carbonated sodas is declining as consumers seek healthier options, a U.S. economic recovery is stoking demand for water and coffee delivery. Cott gained a major foothold in that market last year with the $1.25 billion purchase of Atlanta-based DS Services of America Inc., which supplies 1.5 million homes and offices.

“They’ve managed to change their portfolio mix, their cash flow and we think it is going to accelerate from here,” said Jack Murphy, senior portfolio manager at New York-based Levin Capital Strategies, the largest holder of Cott shares. “Over the next couple of years I think that’s a very reasonable return, and it could be better than that.”

Levin Capital has tripled its holdings since November when Cott announced the acquisition, its largest ever, Murphy said by phone last week.

Stock Returns

The Mississauga, Ontario-based company’s shares have returned 60 percent this year, while PepsiCo returned 2.5 percent and Coca Cola lost investors 2.8 percent, according to data compiled by Bloomberg. That’s more than six times the average for North American beverage makers worth more than $500 million and second only to the 65 percent return for Coca-Cola Bottling Co., the largest independent bottler of Coke products in the U.S.

Kent Landers, a spokesman for Coca-Cola in Atlanta, said the company doesn’t comment on its stock performance or its competitors. PepsiCo didn’t respond to an interview request from Bloomberg News.

Cott has used its soft-drink manufacturing lines to make sparkling and flavored waters, energy drinks and sparkling teas. DS Services is providing Cott with a truck distribution network to sell some of those products directly to customers, Chief Executive Officer Jerry Fowden said in an e-mail.

DS Services also came with its own bottled water brands such as Alhambra, Hinckley and Sparkletts.

Now Cott will pursue as much as $20 million in acquisitions of smaller water and coffee delivery services to expand its distribution, Fowden said.

‘Attractive Valuations’

“We will have the opportunity to participate in the continued roll-up of smaller players at attractive valuations within the home and office bottled water delivery market,” Fowden said.

Fowden expects rising sales of bottled water, mixers and coffee will help offset the decline in sodas. Soft drinks now account for less than 20 percent of Cott’s revenues, down from 41 percent in 2012.

Cott, which has 60 manufacturing facilities in the U.S., Canada, the U.K. and Mexico, was founded by Henry Pencer, who started importing Cott sodas into Canada in 1952 and began bottling beverages in Quebec three years later.

Four analysts recommend buying the stock, while four have a hold rating and one says sell, according to data compiled by Bloomberg. Seven of the analysts have an average 12-month target price of C$14.12 a share, according to the data. Cott closed down 0.3 percent at C$12.59 on Wednesday.

Dietary Guidelines

While Cott is focusing on healthier drinks, declines in the company’s legacy soda business may pressure earnings estimates, according to a May 8 Stifel Financial Corp. report.

Soft drink, juice and snack producers could see reduced sales and increased production costs when the U.S. government implements new dietary guidelines this fall, according to a June 2 Bloomberg Intelligence report.

Cott also has the highest debt-to-earnings ratio of its North American peers after its purchase of DS Services, Bloomberg Intelligence analyst Kenneth Shea said in a May 27 report. The company’s stock is more than twice as expensive relative to projected earnings than the average of its North American peers, data compiled by Bloomberg show.

Still, DS Services is a “stable, capital-steady, high-cash flow business with consistent growth,” Perry Caicco, an analyst at the Canadian Imperial Bank of Commerce in Toronto, said in a May 7 report. DS Services’ earnings are substantial and it will probably grow more than the stagnant or declining soft drink and juice segment of Cott’s business, he said.

Rising Sales

Cott’s first-quarter sales rose 49 percent to $710 million as a result of the acquisition and increased volumes in its traditional business, the company said last month. Sales to Wal-Mart accounted for 19 percent of the total and DS Services accounted for 34 percent.

The company plans to expand its products to convenience stores, gas stations, delis and mom-and-pop stores, Jason Ausher, Cott’s chief accounting officer, said at a June 11 investor conference.

Cott’s profit-margins profile improved with the acquisition, and DS Services will become a greater driver of earnings over time, Goldman Sachs Group analyst Judy Hong said in a May 21 report.

“The DS Services opportunity has changed the stock, changed the company,” Jonathan Feeney, an analyst at Athlos Research in Wayne, Pennsylvania, said by phone. “There’s every indication of great growth for home and office delivery customers.”

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