After Kraft Split, Is PepsiCo Next?

Snacks and Beverages Giant Says No, but Analysts Think It Is Ripe for Breakup

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Almost as soon as Kraft Foods announced its planned split last week, the speculation began: Which company would be the next to divide in two?

A growing number of Wall Street analysts say it just might be PepsiCo, suggesting the company's fast-rising snacks unit is being held back by its underperforming beverage business. Pepsi has quickly dismissed such talk, telling Ad Age in a statement that "Kraft's announcement does not influence our point of view on PepsiCo's current business portfolio or strategy. We have a very different portfolio, and we continue to see very attractive opportunities to create value in our global snacks and beverages businesses."

There's no reason to doubt the company, and analysts aren't expecting anything to happen in the short term.

But then again, Kraft didn't signal its intentions prior to making its surprise announcement. Indeed, only 18 months earlier, Kraft CEO Irene Rosenfeld was telling analysts that bigger was better as Kraft prepared to acquire confectionary giant Cadbury. "This is important because we believe scale will be an increasing source of competitive advantage in both the confectionery category and the food industry as a whole," she said at the time.

As it turns out, smaller was apparently the way to go -- at least according to activist investors who played a big role in pressuring the company to separate its high-growth global snack brands from its slower-growing, more mature grocery brands. The divorce, if finalized next year, would create two investment vehicles: one stock for investors looking for growth, and another for those looking for steady dividend payments the grocery business is expected to produce.

Analysts looking at PepsiCo say similar factors are at play. "The stock is underperforming ... due to problems in the beverage business," Morningstar analyst Philip Gorham wrote this week in a report that found that PepsiCo could "create shareholder value by breaking up."

Jack Russo, who covers consumer packaged goods companies for Edward Jones, said: "We feel the company is undervalued. The two pieces if broken out separately would be worth far more than the current stock is valued." And he added: "Companies react to shareholder pressure, that 's a fact."


Some PepsiCo snack brands:
Quaker Old Fashioned Oats
Quaker Chewy granola bars
Cap'n Crunch cereal
Life cereal

Some PepsiCo beverage brands:
Amp Energy
Mnt Dew

PepsiCo's beverage struggles have been well documented, culminating earlier this year when Pepsi fell to the No. 3 carbonated soft drink brand in the U.S. behind Diet Coke. Meantime, Gatorade has lost market share to Coke's Powerade, though it remains the dominant player with more than a 70% share of the sports drink category. And Tropicana has lost ground to brands like Coke's Simply juice brand by lagging on the introduction of a carafe.

Seeking to right the ship and grab more international share, PepsiCo is transitioning away from its multiregional structure to create a new Global Beverage Group. The company is also preparing its first worldwide campaign for its flagship brand as well as making an international push on Gatorade. At the same time, PepsiCo is considering creating a global snacks unit that would include powerhouse Frito-Lay brands such as Lay's, Doritos, Cheetos and Tostitos. But here's the question: Would global snacks and beverages do better together or apart?

Bill Pecoriello, CEO of Consumer Edge Research, said obstacles to a split -- ranging from joint distribution and merchandising to the loss of centralized research-and-development operations -- are real but can be overcome.

"Pepsi has a history of transforming itself as the outlook for businesses change," said Mr. Pecoriello. "The company rolled up restaurants and spun those off; spun out the bottling businesses and then brought it back; acquired Tropicana and Gatorade when it was apparent carbonated soft drinks weren't the answer for long-term growth. An eventual split off of the beverage business could be the next step in the company's evolution with the bottler buy, the lower long-term outlook for U.S. beverages having changed and competitive challenges the business faces."

Another potential hurdle: PepsiCo has long pursued a "Power of One" strategy of jointly promoting both businesses in stores. But some analysts are skeptical the approach has netted much savings. There are "few distribution synergies," Mr. Gorham said in his report. Drinks and snacks are distributed separately in most markets, he said, because "beverages are dense and require temperature-controlled distribution," while snacks are "lightweight and require package-protected distribution."

PepsiCo's snacks business also has a different set of opportunities and more attractive long-term growth potential for Pepsico, argues Mr. Pecoriello and others. "Pepsi is a distant No. 2 in beverages outside the U.S., with pockets of advantaged positions, as compared to a snack business that competes against an array of local competitors and has a five to six times global share advantage versus the No. 2 competitor," he said.

And that might not be the end of it. Some analysts have speculated that a standalone Pepsi snacks unit would be in a good spot to merge with Kraft's snacks standalone. "The two companies will have complementary portfolios in salty snacks, biscuits, gum, and candy, and are dominant in overlapping geographies (Brazil, Russia, India, Mexico, et al), opening the door to a potential transaction between the two companies," UBS said in a report.

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