Dr Pepper Sees Expansion Differently

The top-three non-alcoholic beverage companies in America aren't on a level playing field, but one company is coming out of nowhere to challenge the "big two" at their own game. Now could be the beginning of something big for this company, so shareholders should get ready for the ride.

Dr Pepper is expanding the smart way
Dr Pepper Snapple (NYSE: DPS  )  is competing with two giants. And unlike Coca-Cola  (NYSE: KO  ) and PepsiCo  (NYSE: PEP  ) , which have concerns about global expansion and offering healthy alternatives, Dr Pepper should be focused on taking market share from the two giants domestically. Its current model to focus on domestic expansion before entering the global market is the best approach because it allows the company to build its brand before taking on additional risk. While Coca-Cola and PepsiCo can afford to take that risk now, doing so requires far more cash flow than what Dr Pepper has on the books (see chart below).

PepsiCo Free Cash Flow data by YCharts.

Dr Pepper Snapple controls 16% of the non-alcoholic beverage market, while Coca-Cola and PepsiCo control 40% and 30%, respectively. For every one percentage point increase the company manages, revenue will increase -- and so too will the share price. It will be much harder for the other two businesses to make gains in the domestic beverage market considering they likely have achieved nearly a full customer base.

Dr Pepper has managed to increase its market share substantially over the past four years, and that is largely due to offering original products that stick with customers. With the revenue generated from each one of these streams, the company will be able to develop more popular products, increasing revenue again, and the cycle continues until Dr Pepper is controlling an even greater market share. At that point, it should consider global expansion--and that is when shareholder value will really spike.

Coca-Cola looks to end health concerns
Coca-Cola has faced an uphill battle over health concerns surrounding its sodas. Artificial sweeteners are among the most criticized components of the company's beverage and have damaged sales of diet soda. In order for Coca-Cola to avoid further declines, it will need to develop a campaign that improves the brand image -- and it is doing just that.

The company recently announced its intention to run a USA Today print ad around Atlanta, another in the Atlantic Journal Constitution, and then one in the Chicago Tribune. But the company will need to do more to defend its product, which is continually being sidelined for healthier alternatives.

The campaign will be a small step toward improving the brand's image, but Coca-Cola will need to make a greater effort towards improving sales of its Coke beverage. I believe the brand's image is the reason for the stock to have continually hovered around the $40 mark for the past 14 years. The flagship Coke product is an international sensation, and with an improved image, Coca-Cola will be raking in additional profits.

PepsiCo's price will increase with an expanding product line
PepsiCo has done a better job at increasing its product portfolio by expanding into the snack-food market. That will prove extremely valuable, as the company isn't as controlled by cola revenue. With PepsiCo controlling about 64% of the salty snack-food market in the U.S., it has found a way to continually develop products that appeal to snackers.

The company is also expanding its product line globally. And with the stock trading at an all-time high, it looks like PepsiCo's continued push to expand its salty foods and cold beverages into new markets is reflected in its share price (see chart below). However, its move into the Russian dairy market is not, and I consider the stock undervalued. The sheer size of the company's $4 billion deal to acquire Wimm-Bill-Dann in 2011 tells me PepsiCo is confident about that new revenue source. And when PepsiCo shows confidence in a sector, it's usually for good reason. 

PepsiCo data by YCharts.

Where these stocks stand
Dr. Pepper is definitely my top pick of the three, based on its proven ability to grow market share domestically. And a small increase in market share means big profits for the company and for shareholders. Coca-Cola will need to increase its efforts to improve the image of its Coke brand, as that product can be an even greater money generator due to its widespread appeal. PepsiCo is making major moves internationally and testing healthy market segments while it's out there. It's only a matter of time before its price justifies its growth savvy.

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