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The Pepsi Growth Challenge
Where to from here?

by Brian Graney (TMF Panic)

ALEXANDRIA, VA (Aug. 13, 1999) -- Picking up where Jeff left off yesterday with his initial look at PepsiCo. (NYSE: PEP), today we're going to take a peek at the soda and snack company's future growth prospects.

While Pepsi's valuation appears to be frozen in time and is virtually unchanged from this portfolio's first look at the company almost two years ago, the business has changed quite a bit. Gone are the Tricon Global (NYSE: YUM) restaurant triumvirate and a 65% stake in Pepsi Bottling Group (NYSE: PBG); new to the fold is the Tropicana juice business.

Selling only snack foods, beverage syrup, and juices, the company should be a lot easier to analyze than it was two years ago. (Notice the use of the word should in the preceding sentence.) Thanks to the mish-mash of recent transactions, however, Pepsi's financial statements are still muddled, although they are not quite as intimidating as they were two years ago. What is easier to see, though, is where the business is going and what kind of growth investors can expect.

As Jeff has already noted, the Frito-Lay salty snacks business is the company's crown jewel and is deservedly getting the most attention from management. In fact, some observers are slowly warming up to the notion that PepsiCo is actually the world's largest snack food company first, and the number two soft drink maker second.

The company makes eight of the top ten selling chips in the U.S., while its Sabritas brand looms large over the Latin America market with a 75% share. Despite the market dominance, there is still room for growth. Americans are hooked on Frito-Lay snack foods, so future crunchy product innovations can probably be forced down consumers' throats with relative ease. Moreover, the company has one of the rarest of commodities in the food business -- pricing power -- meaning it can boost its top line with annual price increases without worrying too much about what the effects will be on sales volumes. That's a powerful advantage in the food business.

Other growth opportunities for the division exist in the eastern hemisphere. The roughly 50% market shares in both the U.K. and in Australia, while impressive, can be improved upon nonetheless. Further, Frito-Lay has virtually no presence in Western Europe or Asia, based mostly on the fact that continental Europeans think orange Chee-tos fingers are d�class� and folks from Japan have a hard time distinguishing between Doritos and burritos, let alone Doritos and Tostitos.

Still, everybody likes a good snack every once and a while, regardless of where they live. So acquisitions in these regions would make sense, and the company is moving in this strategic direction. As part of its overall growth roadmap, Pepsi's management has established an annual acquisition budget of $1 billion for the next few years. Fattening up Frito-Lay International is the top priority.

Over in its namesake beverage business, the major growth opportunities we see involve beverages outside of Pepsi's main cola franchises, which should continue to grow as slowly and steadily as moss on an elm.

Growing fast is the company's Aquafina water business, which came out of nowhere to rack up $165 million in 1998 sales. That was enough to rank the brand fifth on the list of top-selling U.S. bottled water brands compiled by trade group Beverage Marketing Corp. Regardless of any underlying personal opinions on whether companies should be able to get away with selling an essential building block of life for profit, one must admit that the bottled water business is capitalistic brilliance at its profit-seeking finest. And the margins ain't that bad either, from what we can gather.

Other non-cola product areas are growing, too. Despite Jeff's comments yesterday, my real Pepsi product addiction is to Lipton Brisk bottled iced tea and not to the new Pepsi One soft drink. According to industry newsletter Beverage Digest, Lipton Brisk held a 34% market share in the bottled tea market last year, ahead of Coca-Cola's (NYSE: KO) Cool from Nestea product and the Snapple franchise.

Marketing spending for Lipton Brisk, which is a partnership between Pepsi and Unilever, is expected to increase to $24 million this year, up from the $15 million shelled out two years ago. The market opportunity is certainly there, considering 75% of U.S. households drink tea, but only an estimated 30% or so drink bottled teas such as Lipton Brisk or Cool from Nestea.

Other growth opportunities exist, but selling water, teas, and even Tropicana juices alongside the standby carbonated beverages in supermarket and convenience store coolers is a growth strategy that should yield healthy results for PepsiCo. in the future. Management execution will be key. We'll likely have more to say on that issue and others when we continue our look at Pepsi next week. We will surely have much more to say if you share your thoughts on the Drip Companies message board. Please do!

Until next week, have a safe and Foolish Friday the 13th weekend!

Call Your Boss a Fool.

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8/13/99 Close

Stock      Close         Change
JNJ       97 5/16        +2 7/8
INTC       79 3/4      +3 13/16
CPB       44 5/16         + 1/4
MEL      33 15/16       +2 5/16
              Day      Month      Year     History
Drip         4.43%     8.53%     14.61%      30.34% 
S&P 500      2.27%    (0.08%)     8.59%      41.40% 
Nasdaq       3.46%    (0.03%)    20.30%      65.50% 


Last Rec'd    Total #   Security    In At    Current
 08/02/99      8.174       CPB     $52.750   $44.313
 07/01/99     21.066      INTC     $41.861   $79.750
 03/09/99      9.076       JNJ     $74.910   $97.313
 06/07/99     22.453       MEL     $33.488   $33.938


Last Rec'd  Total #  Security   In At     Value    Change
 08/02/99   8.174      CPB     $431.18   $362.21  ($68.97)
 07/01/99  21.066     INTC     $881.84  $1680.00  $798.16 
 03/09/99   9.076      JNJ     $679.89   $883.21  $203.32 
 06/07/99  22.453      MEL     $751.91   $762.01   $10.10 


Base:  $2800.00
Cash:    $24.27**
Total: $3711.70

The Drip Portfolio has been divided into 113.904 shares with an average purchase price of $24.582 per share.

The portfolio began with $500 on July 28, 1997, adds $100 to invest every month, and the goal is to have $150,000 in stock by August of the year 2017. Due to the slow nature of dollar-cost-averaging, we don't expect to seriously challenge the S&P 500 for the first 3 to 5 years as we build an investment base. The long-term advantages of dollar-cost-averaging still overcome the short-term disadvantages, however. (NOTE: our investment in Campbell Soup is all but frozen due to fees instituted in its DRP plan.)

**Transactions in progress:

7/26/99: Sent $100 to buy more JNJ.



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