Consumer

Gillian Tan is a Bloomberg Gadfly columnist covering deals and private equity. She previously was a reporter for the Wall Street Journal. She is a qualified chartered accountant.

Dr Pepper Snapple may be losing some of its fizz, but it still has pop. 

The $16 billion beverage maker's stock fell as much as 6 percent Tuesday on fears that Bai Brands, in which it holds a minority stake, could end up in the hands of a rival. Bai, a maker of antioxidant, low-calorie drinks, is exploring a sale that could value it at more than $2 billion, according to Reuters

Bai is one of a handful of "allied brands" now responsible for roughly 14 percent of Dr Pepper Snapple's sales (up from about 8 percent in 2008). It caters to millennials and the health-conscious, a growth area in the world of food and beverages. Bai also holds distribution rights that would likely be forfeited if a rival such as Coca-Cola, Pepsi or Nestle were to triumph in an auction of the company.

Thirst Quenchers
"Allied brands" such as AriZona, High Brew, Fiji Water, Body Armor, Vita Coco and Bai give Dr Pepper Snapple access to faster-growing beverage categories
Source: Nielsen, Bernstein

Dr Pepper Snapple has never made a sizable buy since being spun off from Cadbury in 2008, but its longtime conservatism around M&A is now being tested. CFO Marty Ellen last year said the company was comfortable partnering with other beverage makers such as Bai and Vita Coco for access to their innovation. But, he added, "to acquire them would be just too expensive and we're not sure the right thing to do in terms of the amount of money it would actually take to own all these businesses."

His words echoed that of Dr Pepper Snapple's president and CEO Larry Young, who indicated in 2014 that the company was happy being a distributor and owning small equity stakes, and wouldn't overpay for an acquisition:

"Some of these multiples out there are ridiculous and I love these young entrepreneurs, but they all want to have the next Glaceau deal." 

Glaceau, better known as the parent of vitaminwater, was distributed by Dr Pepper Snapple before it was acquired by Coca-Cola in 2007 for an estimated 9 to 10 times its trailing revenue. If a buyer does fork out an estimated $2 billion or more for Bai, that would value it at a lofty 7 times its estimated 2016 sales, or more.  While that's more than double Dr Pepper Snapple's own revenue multiple of 2.9, such transactions can pay off over time. Glaceau, for instance, had $350 million in sales in 2007. Today, that number is high enough for Coca-Cola to include vitaminwater as one of its "billion-dollar brands." 

That means Dr Pepper Snapple may regret sidelining itself in any M&A discussions for Bai, since losing the brand to a rival would mean bidding farewell one of its biggest drivers of growth. It would also dent the company's earnings per share by an estimated 5 percent to 6 percent, according to analysts at Evercore ISI. 

The best-case scenario for Dr Pepper Snapple will be if its rivals don't show up to bid, and Bai lands a private equity investor to back its next phase of growth. Such a deal would leave its distribution rights unchanged. Failing that? The company must either strike its first big deal or do its best to offset the loss of Bai by securing a string of distribution deals with young, on-trend and fast-growing beverage companies.

Shareholders have the right to be concerned, but should also take management's track record into account. After all, Dr Pepper Snapple has been in this position before -- it has lost distribution rights to drinks like vitaminwater and Monster Energy, but still delivered a total annualized return of 18.9 percent since April 2008, assuming the reinvestment of dividends.

Soda Pop
Wall Street analysts believe Dr Pepper Snapple could rally an average of 13.5 percent over the next year
Source: Bloomberg

It's also beaten the S&P 500 as well as rivals Coca-Cola and Pepsi, which respectively posted total annualized returns of 7.6 percent, 7.7 percent and 8.7 percent over the same time.

So even if Dr Pepper Snapple says goodbye to Bai, that doesn't mean it will be left flat. 

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

  1. Per Forbes, Bai's on track to exceed $300 million in revenue this year, up from $120 million in 2015.

To contact the author of this story:
Gillian Tan in New York at gtan129@bloomberg.net

To contact the editor responsible for this story:
Beth Williams at bewilliams@bloomberg.net