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  1. Home
  2. / Investing
  3. / Consumer Staples

Why Coke Should Make One Monster of a Deal

The energy-drink maker is sitting on a potential emerging-market payday.
By BRIAN SOZZI Aug 22, 2016 | 11:00 AM EDT
Stocks quotes in this article: KO, MNST, PEP

It's time for Coca-Cola (KO) to do what it should have done a while ago: buy all of energy-drink maker Monster Beverage (MNST) .

This is not a new idea proposed by yours truly, rather one that was reaffirmed by Monster's impressive second quarter and Coke's need to tap into new sources of growth. As background, Coke took a 16.7% stake in Monster back in late 2014 and began to distribute Monster's various energy drinks through its vast bottling network. The deal has been a win for both parties.

From a Coke perspective, it has a portfolio of hot-selling carbonated products running through its distribution network. Bottlers love that. Moreover, the company was basically able to shut out others such as PepsiCo (PEP) from swooping in and buying all of Monster. (PepsiCo is a holding in TheStreet's Action Alerts PLUS portfolio.)

From a Monster perspective, it has likely learned how a real carbonated beverage operation should run, which has probably freed up time for management to focus more on product innovation and marketing. And hey, Monster's stock has essentially gone straight up since Coke acquired its stake.

I believe Coke is at least considering upping its interest in Monster sooner rather than later, even if it will be much costlier than when the initial stake was assumed.

"Well, we made an initial investment in a partnership and we are very happy with it. The Monster portfolio has been expanded internationally, and I think it's a very strong story and we are both doing very well out of it," Coke's COO James Quincey told me last month when asked about the company's plans for Monster.

Coke generates tons of cash, and will be in the position to generate even more once it finishes re-franchising its bottling network in 2017. The time to strike is now from a Coke standpoint before Monster's stock gets pricier. Exposure to Monster is the continued play here.

There are several baseline reasons for this deal to get done.

Monster's business profile is very favorable

The company continues to notch solid sales growth and has operating margins of nearly 50% in the U.S. In other words, Monster isn't growing its sales this strongly by giving product away. I can tell you from first-hand experience: the product is rarely on sale at convenience stores (I drink it religiously).

Furthermore, the company is seeing strong double-digit sales growth with rapidly expanding margins in international markets. And to round it out, the balance sheet is pristine.

How is the company doing this? It boils down to consistent product innovation, which is essential in the beverage industry. From new energy shakes to the upcoming launch of a carbonated product called Mutant (taking aim at Sprite and 7 Up), Monster is simply out-innovating Red Bull and most others in the category.

Industry backdrop remains healthy

I have been astonished how energy drinks have stayed out of the debate this year on sugar taxes. In an odd way, energy drinks have hit a near-term sweet spot of being seen as not as unhealthy as a can of soda (though that's certainly debatable given the caffeine counts and other chemicals). And this shows in the industry sales data.

According to Nielsen, for the four weeks ended July 23, sales in the convenience and gas channel, including energy shots, increased 2.5% year over year. Sales of Monster rose 5.9% from the prior year, while rival NOS was down 5.2% and Full Throttle (made by Coke) decreased 7%. Sales of Red Bull increased 0.3%.

Monster sitting on a potential emerging-market payday

The company is likely nearing scoring two major achievements within the next 12 months that will unlock considerable sales. First is the approximate early fourth-quarter launch of Monster in China. Second is Monster in India, where the company is currently awaiting approval for the launch.

While Monster waits to launch in these emerging markets, it continues to expand distribution in Africa and the Middle East.

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TAGS: Investing | U.S. Equity | Consumer Staples | Mergers and Acquisitions

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