Bottling executives within the US Coke and Pepsi soft drink systems have experienced a business environment during the past three years like no other in their tenures. A global pandemic shut down most fountain sales and drove consumers to retail, where a sudden sales spike stretched infrastructure and workforces. Then supply chain disruptions forced bottlers to scramble to get access to everything from aluminum cans and PET to CO2 and trucking services. That chaos was followed by runaway costs for labor, production inputs, and fuel, which in turn drove the need for unprecedented pricing increases that have bucked all previous learning about what consumers are willing to pay for soda. Given that backdrop, BD spoke to soft drink bottling system experts Marion Glover and Jim Marvel about expectations for the coming year, the non-alcoholic beverage industry’s growing fascination with the alcohol sector, and bottler consolidation, Glover is the founder and president of Glover Capital, which advises bottlers on restructuring ownership and negotiating the sale and purchase of bottlers and distributors. He spent 14 years at Coca-Cola in roles that included VP of corporate strategic planning. Marvel is an advisor for sister firm Glover & Associates, which guides bottlers on adding value to business strategies and business valuations. He retired from Coca-Cola in 2020 as VP of strategic initiatives, governance & bottler contracts. Marvel spent 33 years at the company.
The following Q&A has been assembled from phone and email conversations and has been edited for clarity and length:
BD: This is an unprecedented time for US soft drink bottlers, who are enjoying high margins and stronger-than-expected pricing power. How long might this last?
MG: That’s an important question. Years ago, soft drink bottlers would raise prices infrequently and moderately, at about +2.0% every two years. Over time, volume and profit margins declined and the underlying costs of their business increased at a faster pace than the revenue. In the last three years, bottlers have increased prices aggressively at a rate that is generally higher than cost changes. The result is that bottlers have significantly increased profit margins. In most cases, volume has not suffered to the extent that it had in the past when prices increased. Some bottlers have even seen small volume increases. Our feeling is that soft drink prices are not inelastic, and a more traditional relationship will return in 2023. For example, bottlers may find that where the product is heavily promoted due to competitive alternatives, it may be difficult to raise prices high enough to offset significant cost increases. This will occur more with the major carbonated brands, such as Coke, Pepsi, and Dr Pepper, which are sold in the takeaway market, especially mass merchandisers, and supermarkets. Other on-premise and new specialty brands will also feel pressure on price changes, but the margins will not suffer since their purchase is less a price decision.
JM: Non-alcoholic beverages historically have been elastic – meaning volume is impacted negatively when price increases. For a variety of factors, the category has become more inelastic. Recently, we’ve seen growth in the generic non-alcoholic beverage category. This is an indication of a consumer shift back to a more traditional elastic model. We should monitor this closely, as well as identify other "canary in the coal mine" data trends that may indicate a return to historical price elasticity. Examples include:
1) The percentage of product sales on promotion versus everyday value pricing.
2) Changes in other CPG industry pricing elasticities.
As Marion points out, we will want to think about how this consumer change will manifest itself differently by channel. That way we can implement a revenue growth management strategy that re-introduces thoughtful promotional activity and limits that activity to channels where it is needed to maintain volume.
BD: What should bottlers do to prepare for a return to a more traditional operating environment, or downturn?
MG: Bottlers who are strong in on-premise, as well as cold drink bottle/can will be able to enhance profits. They should instigate value-based programs that maximize long-term free cash flow at a return higher than their cost of capital. This is far superior to a margin-driven or EBITDA focus.
JM: As an operator, I would focus on a few key areas to prepare for a potential shift: revenue management, expense management, and establishment of long-term growth goals. I would also incorporate strict performance criteria for promotional pricing. Prior to the pandemic, promotional pricing had become a tool we may have used too liberally. Many stores had multiple promotions that overlapped and were not designed with a strategy. Revisit why we promote, which is to profitably drive higher consumption rates. This may mean stock-up promotions, or it may be a discount to try a new product. If we are promoting a product, it is absolutely critical that customers commit additional display space to the product.
ALCOHOLIC BEVERAGES PROVIDE 'GREAT POTENTIAL' FOR SOFT DRINK
BD: Are you seeing a growing interest by Coke and Pepsi bottlers who want to invest in beer distribution given all the recent non-alcohol industry interest in hard seltzers and canned cocktails?
MG: Yes. We have observed soft drink bottlers who for years have had ownerships of beer distributors. While there are some operational differences, in most cases it has been a good marriage due to many similarities of the market. Acquiring a beer distributor is somewhat more challenging than a soft drink bottler and there are intermediaries who focus on this industry and can guide a soft drink bottler through the process.
JM: Yes. Opportunities for soft drink bottlers to take advantage of growth in alcoholic beverages provides great potential. A carefully managed business model can ensure an operator effectively operates within the legal requirements of their state and delivers synergies such as common back-office support and in some cases sales, warehousing, and distribution activities. Due to legal implications, these plans should be carefully vetted.
PLANNING POINTERS: SHAREHOLDERS, SUCCESSION, CONSOLIDATION
BD: The Coke and Pepsi systems are made up of many 100-year-old or longer businesses. Do you expect an increasing level of consolidation as family members begin to lose interest or follow other paths?
MG:Today, independent small- to medium-sized Coke and Pepsi bottlers have seen the values of their businesses increase to new highs. This gives the shareholders an opportunity to sell their ownership interests at attractive prices and for the bottling companies to sell to others in the industry who are seeking to consolidate. Our own experience is the prices are currently 30% to 40% higher than three years ago. It is a great time for those families who wish to stay with their business over a long horizon to repurchase shares from passive shareholders as well as to seek acquisitions of other bottlers.
JM: Consolidation of the business is particularly attractive to larger bottlers due to the recent business success. Small- to medium-sized bottlers should assess their succession plans and if there is not a viable successor, should consider a transaction to take advantage of the higher business value driven by recent strong performance.
BD: What are the barriers that family-owned bottlers face when planning?
MG: Restructuring the ownership to ensure the business can be managed to enhance long-term value. This means offering an exit strategy for many that have no interest in the long-term future and are more focused on short-term distributions.
JM: There are several challenges to be considered, including:
• Clearly identifying next-generation leaders: Identify the next generation that has an interest in a career in the business; don't put all your eggs in one basket. It is important to recognize that interests may change over time.
• Maintaining passion for the business with potential next-generation leaders: Engage those who are interested in key activities to drive interest/passion in the business. Industry events are a great way to do that.
• Ensuring business experience beyond the family business: Establish requirements for family members to eventually take leadership roles in the business. Gaining broad business experience has resulted in the strongest transitions to the next generation. It's important to have minimum educational expectations, as well as a minimum period working outside the family business in a different geography or a related business.
BD: What’s more important, shareholder management or succession planning?
MG: Succession of management with family members has often created very difficult issues and is not always the best or only alternative. For example, leadership is often challenged if one family member is selected over others. Often, bringing in a professional manager is better, especially if that person is more capable of leading and understanding value-based strategies, such as maximizing free cash flow in excess of the bottler’s cost of capital over the long term.
JM: Both should work together. Ideally, over time, shares are transitioned to those engaged in the succession process. The award of shares should be tied to continued engagement and successful management decisions. Streamlining shareholders is also sometimes an enabler of succession management. There are a few reasons for this:
1) Re-purchasing shares from disengaged or disruptive shareholders allows the company to build a reserve of shares to award to succession candidates.
2) Consolidating decision-making authority allows for a clearer succession plan and confidence that management authority will transition as envisioned.
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