On July 30, Keurig Dr Pepper announced a long-term national agreement to distribute Polar Seltzer sparkling waters in the US. The deal gives KDP and Polar Beverages a chance to further challenge sparkling water market leaders LaCroix (National Beverage) and Nestlé Waters and to regain ground against PepsiCo’s more recent entrant Bubly. The move also helps Polar defend against Coca-Cola, which launched a new sparkling water called Aha earlier this year. For its part, Keurig Dr Pepper gets access to a meaningful yet underdeveloped contender in an unsweetened, lightly flavored sparkling water category that has captured the attention of health-conscious consumers (see link below). KDP’s Canada Dry and Schweppes brands, seen more as mixers than daily refreshment beverages, have been unable to hold off the new brands created by Coca-Cola and PepsiCo.
ANALYST VIEW. Goldman Sachs Analyst Bonnie Herzog was positive about the Polar agreement. “There could be a significant runway of long-term growth ahead for KDP,” she wrote. “Based on our analysis, we think KDP has the potential to significantly scale Polar’s seltzers nationally via its strong DSD [direct store delivery] operations outside Polar’s core Northeastern US roots and more than double the brand’s retail dollar sales to ~$1.2B by 2025, up significantly from ~$450MM at retail across tracked and non-tracked channels.” At Guggenheim Securities, analyst Laurent Grandet also blessed the deal. “The addition of Polar will not only help – marginally at the beginning – top line growth, but also should be margin accretive with more volume flowing through its expensive DSD system.”
EXECUTIVE VIEW. Following last week’s Polar announcement, BD spoke with Keurig Dr Pepper Chief Commercial Officer Derek Hopkins about the agreement and the company’s second-quarter results released on July 30. KDP maintained its full-year 2020 earnings guidance, bucking the trend set by Coca-Cola and PepsiCo to withdraw guidance due to uncertainty stemming from the COVID-19 pandemic. The company also reported a secondquarter organic sales increase of +2.9%, beating many analysts’ estimates. Packaged beverage net sales grew +6.2%, helping to counter a -16.5% decrease for beverage concentrates due to a “significant decline to the fountain foodservice business,” the company said in a statement. The following Q&A with Hopkins has been edited for clarity and space.
BD: What’s the rationale for the Polar Seltzer deal?
DH: Unsweetened, flavored sparkling water category growth has been fantastic, certainly as consumers are seeking healthier alternatives. In the last 52 weeks, it’s up close to 20 to 25 percent. Interestingly during COVID, that growth has accelerated. Polar is a special and unique brand. It’s by far the market leader in the Northeast. While it only has about 35% ACV distribution, it’s the third largest brand nationally. We believe there’s tremendous upside. It resonates with consumers well outside of the Northeast, even in Florida, where I am right now. It does incredibly well within Publix, and that’s without the benefit of a major DSD player taking it to market. The brand increases our scale in an already strong water lineup and together with Polar we can really build this into a powerhouse nationally.
BD: Your CEO Bob Gamgort wants to make Polar Seltzer a No. 1 brand. How long would that take?
DH: I wouldn’t put a time limit on it. That’s the aspiration because we do believe in the brand. The brand’s velocities are very good. This is a brand that’s been family owned since 1882. Their flavors are very good. It absolutely has the ingredients between the brand, and our distribution footprint, to become number one.
DSD EQUALS ‘POWER’
BD: Can you get to 100% ACV [all-commodity volume] and how long will that take?
DH: We’ll manufacture, sell and distribute across our US footprint. We’ll use our companyowned distribution, our drugstore distribution, and also our independent distributor network. Polar will continue to manufacture and distribute in its territory, which is primarily the Northeast, and to some select partners like Honickman and Admiral. We’ll start phasing it into our distribution network in Q4, and then be off and running for the beginning part of next year. 100% is always the goal for ACV. We haven’t said how long it will take us. In our footprint where we launch, by the end of next year, we want to see very healthy ACV coverage. This is a brand that operates like CSD, so it’ll fit into our distribution footprint well and we’ll absolutely put that on our trucks. Bringing a brand into the DSD system gives you quite a bit of power in the marketplace.
BD: Will Polar’s warehouse accounts like Publix be converted to DSD?
DH: The end goal is for us to have this as a DSD product. We will always work back in some of these legacy situations and try to find the right balance between what the customer would like to do and what we would like to do. We’ve got a few different ways that we can get product to market. Part of the value that we bring is we try to make the best decisions between our brands and our customer’s needs, so we don’t have to rely on a one-size-fits-all model.
BD: Can you close the margin gap between warehouse and DSD, or would you be betting on velocity?
DH: DSD is always more expensive, but the service we provide to retailers on these highvelocity items, which take a lot of handling, is where we really provide the benefit. CSDs and products like this do very well from a standpoint of impulse purchase and off-shelf merchandising, which is where we can bring a lot of value to something like Polar. There are also cold-availability opportunities.
REVENUE GROWTH MANAGEMENT
BD: What’s your plan to boost Polar’s convenience store presence?
DH: Our relationship with Polar will take it across all channels within our footprint, so that’s obviously your traditional channels, plus c-store, plus fountain, plus food service, and e-commerce. Polar will be in charge of brand marketing, but we’ll be working closely with them on what pack sizes we believe are best for the market. One of the benefits we’ll bring is strong revenue growth management capabilities. E-commerce is an area where we believe we can also add benefit to a brand like Polar. We’ve got quite a capability there. We started e-commerce selling in 2003. Keurig.com is the largest CPG consumable website. Our e-commerce sales today represent about 10% of our retail sales. Water is one of the categories that has done well in national ship and e-commerce.
BD: How will Polar play with your recent sparkling water acquisition, Limitless?
DH: That’s a small brand with functional benefits that we’re going to innovate with and work hard to build. Polar will be the priority sparkling water within our portfolio because we do believe there is a significant opportunity. It resonates well with consumers, it has a great name behind it, and consumers like the flavors. Limitless is much more of a functional play than the play on the flavors and the benefits that Polar presents. It has caffeine in it, and we’ll look at some other innovation within Limitless. We’re looking at some different tests right now in the marketplace on sparkling waters because it’s a hot category.
SCENARIO PLANNING WITHOUT A CRYSTAL BALL
BD: KDP performed quite well in the second quarter during this pandemic, with strong CSD share gains. Can you sustain that?
DH: The good news for us is that we were performing well prior to that. We performed well during the crisis and we believe we’ll continue to perform very well when we come out of it. We’ve been able to create a modern beverage company that’s flexible and resilient with the ability to outperform in a variety of conditions. There’s no crystal ball here. We’re the one company that’s confirmed our guidance, and we’ve confirmed that guidance for the balance of the year. We think that the greatest impact of COVID was in Q2 and we pivoted very early to manage through the crisis. Going forward, it’s largely going to depend on the management of the health crisis and the pace of recovery as the economy gradually opens back up. We continually monitor the situation. We’ve done some extensive scenario planning and we believe that our business model allows us to manage the portfolio and channel mix to meet our guidance. What we’ve learned through Q2 is that this is all about being nimble, focused, and responsive.
BD: Let me drill into that. What do you think is the core reason why you are able to perform at that level?
DH: We have a differentiated portfolio across our entire portfolio, whether it’s hot, cold or brewers. We’ve got a really diversified route-to-market approach that delivers good reach and very good efficiency. We’ve got a unique framework with our partnerships. We’ve got a pretty good leading approach to technology. We leveraged proprietary analytics to provide real time consumer information. The choices they’re making, what channels they’re going to. We used that to focus our resources on the areas of the business with changing consumer trends. Things like at-home coffee, multi-packs, large format, e-commerce. We had to do that to offset the weaknesses in the other parts, like on-premise and c-stores. The next thing we did is simplify and prioritize our portfolio very early in the process. We needed to drive efficiency through SKU reduction and very focused promotions. One of the things we did very early to meet demand was to prioritize the production, focus and promotions of our fastest moving SKUs. The next thing we did is leverage the muscle of our supply chain. If you look at cold beverages, the supply chain is built for spikes in demand for holidays, but it’s not built for spikes in demand for 120 days straight. On our aluminum, we saw this [shortage] trend coming incredibly early thanks to some of the analytics that we had in place. We procured additional can bodies. We needed to keep our operations running. Lastly, in an environment like this, you have to control your cost base. [Note: Dr Pepper has since confirmed to consumers on Twitter that some of that brand’s products are now “harder to find” and that the company is “working on it.”]
BD: How did you handle the margin shift from immediate consumption packages in channels such as convenience stores to multipacks in groceries?
DH: C-stores and fountain foodservice were the two biggest impacts that we had in our business. If I look at fountain foodservice first, Dr Pepper is obviously a big brand there. It’s the most available brand in quick serve restaurants. We track the traffic of QSRs on a weekly basis to understand what’s happening. And what we’ve seen is the traffic is actually coming back better in that channel. We’re starting to see that get better as mobility increases with consumers. There was a steep decline within convenience and gas because of the limited consumer mobility, but it’s really starting to improve. A lot of this is highly dependent on the pace of the economic reopening, but if I look at just convenience in June, that channel with liquid refreshment beverages is up. The good news is we continue to gain share in that channel throughout the crisis. We’re cautiously optimistic that those two channels will see some better trends than they did in Q2.
BD: Why do you think you’re gaining CSD share in c-stores?
DH: We’ve been able to service the market well with our products and to stay in stock and to keep our operations running. We have a large portfolio of flavors. It’s important to keep those in front of consumers. Consumers are certainly wanting to treat themselves as they spend more time at home. We’re seeing big increases in household penetration of our brands across the portfolio because our brands resonate with consumers and they’re available. As consumers are home, they want branded products and they certainly want things that treat them like Dr Pepper, 7-Up, A&W and Sunkist.
PRECEDENT FOR QSR REBOUND
BD: Looking ahead to next year, which categories and channels will perform best?
DH: We’ll see brands and categories do well based on where people spend their time. One of the things that we’re seeing within the connected data [from consumers who voluntarily link at-home brewers to Keurig for market research] is big increases of the overall attachment rate, which means that the cups per household are going up . We get a good read on that in real time on account of the 10,000 households that we have. What we’ve seen is doubledigit increases in coffee attachment in those homes at the beginning of the crisis between the hours of 9am and 5pm. The brands that have performed well are categories with high at-home consumption, such as CSDs and juice. From a fountain foodservice standpoint, QSRs typically continue to do well even if consumer spending goes down as long as there is mobility. If you go back to previous recessions, you’d see that that channel does well. At home coffee consumption will continue if there’s more time at home and people are shifting away from coffee shop occasions. You can get a premium cup of coffee from a Keurig pod for 60 cents, versus maybe three dollars. We’ve really taken the steps to lower the cost of our pods and our brewers, so you can now range anywhere from 30 cents a pod, up to 60 cents a pod.
BD: Is it better for your Keurig business that people are drinking your coffee products at home rather than at the office?
DH: There is a mix impact. We have a strong business in the workplace, so we have to counteract that from a mix standpoint. Certainly, the at-home coffee consumption is increasing, but it’s not necessarily a complete windfall because you also have the decline of away-from-home coffee, or workplace. But what we see consumers purchasing and drinking within the house has been a bit different. There’s generally a large penetration of private label coffee for at-home consumption. What’s interesting is that the overall category of single-serve coffee accelerated in Q2, up about +15%. While we’re seeing private label grow, it’s not winning the share that it had been, and the branded items have picked up their growth. Consumers in the house want to treat themselves, and they’re not spending as much disposable income out of the home. We’re in a bit of a unique position because we manufacture a large portion of the private label. We manufacture about 80% of all pods. So, we’re a little bit indifferent. Our goal is to grow the overall system in the installed base of brewers.
BUFFALO ROCK AGREEMENT
BD: We broke news recently of your distribution deal with Buffalo Rock Pepsi that puts RC Cola and some of your other CSD brands on those competing cola trucks. Do you expect to do more such deals or is this a one-off?
DH: We’re always looking for opportunities to optimize route-to-market. There are two goals. Either improve the market performance or increase the efficiency and reach to our consumers. Part of the value of having such a diverse route-to-market is that we try to make the best decision for that brand. As it relates to DSD, we’re going to continue to try to strengthen it through a few different ways because scale matters in DSD. We’ll either do it through innovation like ‘Dr Pepper & Cream Soda’, which is doing very well, or we’ll try to add partner brands like Polar Seltzer. Or we’ll try to find some transactions where it’s a win-win for both parties and we can gain value in the marketplace. The Buffalo Rock deal is one we were excited about because we’ve had a long-term agreement and relationship with these guys. The agreement allowed us to find a win-win where we could consolidate the rest of our brands in that marketplace. They’ve got good breadth and capabilities in that marketplace and it puts us in a unique situation to have a long-term partnership with them where we know that the brands will win. That just fits within the strategy of improving efficiency and market performance.
BD: Will you do more of those deals?
DH: We look at all of them from a win-win standpoint. But we try to be agnostic to the actual partner route-to-market. What we’re looking for is the best opportunity to win the marketplace.
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