How This Small Company Plans to Replace Coca-Cola

Unlike Coca-Cola  (NYSE: KO  )  or PepsiCo (NYSE: PEP  ) , SodaStream (NASDAQ: SODA  ) does not manufacture carbonated beverages. Yet, it is probably the major cola-makers' strongest competitor. The reason? For as little as $99.95, you can turn water into soda in seconds, and more than 10 million SodaStream customers have already stopped buying soda in cans and bottles! But can this company actually replace the need to buy Coca-Cola or PepsiCo products?

A great story behind the stock
Before introducing you to the fundamentals of SodaStream, let me present more details about the company and its product. Its main product, a home-beverage carbonation system, is based on a machine created in 1903 and originally sold in the UK. SodaStream machines were very popular during the 80's in that part of the world. The company was later acquired by Soda-Club, an Israeli company, in 1998.

The real growth story begins when CEO Daniel Birnbaum took power in 2007. Birnbaum was the general manager of Nike Israel from 2003 to 2006, and under his guidance, that business obtained a leading position in the country's sports industry.  Birnbaum relaunched the SodaStream brand in many markets around 2007 and led it through a successful IPO in 2010. The deal raised $367 million, the eighth-largest offering for an Israeli company on the Nasdaq.

Since then, the company's market cap has risen to $1.3 billion, and SodaStream has consolidated its position as a world leader in home carbonation, present in 45 countries and 60,000 stores (15,000 in the US alone), 7 million active households, and a revenue projection for 2013 of $565 million.

The secret? A great product

Source: SodaStream investor relations, August presentation

SodaStream's product offers a similar experience to Coke and other traditional carbonated beverages, and it represents a better bargain. According to the company, you can save up to 70% for sparkling water and up to 30% for carbonated soft drinks. It is also convenient; you won't have to deal with lugging heavy bottles and six-packs any more.

From the business point of view, by selling the razors (the carbonates system) relatively cheap, and keeping the blades (the flavors) pricey, SodaStream effectively manages to lock in its customers and keep margins high.

The company has control of the whole system: it manufactures soda makers (where it has protected its carbonation technique and design with patents), reusable carbonating bottles, CO2 cylinders, and a full-range of flavors from energy to diet products. Let's see how this reflects in the fundamentals of the company.

Rock-solid fundamentals
SodaStream is a genuine growth stock. In the second quarter of 2013, it increased its revenue by 28.5% to $134.4 million from the second quarter of 2012. The company is experiencing similar growth in both its soda maker (up 25%) segment and consumables unit (up 28%). In the U.S. alone, sales increased 42% (90%, excluding Wal-Mart sales).

Since 2009, the company has experienced a 49% compound annual growth rate in its soda-maker unit sales. And according to official projections, if SodaStream manages to keep a 23% CAGR for the next three years, revenue should reach $1 billion by 2016.

Source: SodaStream investor relations, August presentation

The best part is that maintaining a 23% CAGR does not represent a challenge for the company--in fact, it could grow even faster. Just consider that to strengthen its business, SodaStream acquired an Italian distributor last quarter. It is also increasing the number of its gas-exchange locations in the U.S. (so far, more than 13,000 locations), where customers are allowed to exchange spent CO2 cylinders for new ones. 

Finally, SodaStream's strong income flow is also worth mentioning. The company grew net income by 36.1% last quarter, pushing it up to $12.9 million. Diluted EPS grew 33.3% to $0.60 per common share. 


Source: Oldschoolvalue

Coca-Cola and PepsiCo won't give up easily
In early July, Israeli media stated that both Coke and Pepsi were interested in buying this disruptive force in the beverages industry. 

According to a Barclays report, it makes "strategic sense" for Pepsi to shop for SodaStream because the company's well-protected barriers to entry guarantee a safe business for many years. With $6.7 billion in cash, Pepsi has enough firepower for a SodaStream acquisition.

Coca-Cola, with its $9.2 billion, may also be interested. In theory, by using its distribution network (which covers more than 200 countries), the company could take SodaStream's products to the shelves of most stores in the world, causing a growth explosion in SodaStream's revenue base.

However, in practice things are more complicated. Both from the point of view of Coke and Pepsi, SodaStream's products are clearly substitute goods. Strengthening SodaStream's business could come at the expense of losing sales in the traditional soft-drink bottling segment due to cannibalization.

The good news is that both Coca-Cola and Pepsi look well prepared to fend off declining sales in the carbonated-drinks segment. Coca-Cola acquired European juice brand Innocent early this year  in order to diversify its revenue base. This is a strategic move, considering consumers are getting increasingly more concerned about health issues. At the end of 2012, Innocent reported a 37% rise in sales.

Pepsi, on the other hand, owns juice brand Tropicana and, more importantly, controls almost 40% of the world's salty snack market through its Frito-Lay division.

Final Foolish thoughts
SodaStream is a superb growth stock. It's product promises to become a disruptive force in the soft-drink industry. According to official projections, revenue is expected to surpass $1 billion by 2016. And considering net income remains high, this company will eventually create very strong cash flow. Also, an acquisition by either Pepsi or Coca-Cola remains a strong possibility, though both companies would need to pay an elevated premium. In any of these scenarios, I see plenty of reasons to be long this stock. 

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Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On September 11, 2013, at 6:30 PM, chk999 wrote:

    According to Yahoo, 49% of the float is short on this name. So somebody is expecting this to get hammered. If I remember correctly, the number of gas cylinders sold per unit per year keeps going down, which means that the units get less usage after a while, rather than more. That isn't something that gives me a warm feeling.

    Call me skeptical.

  • Report this Comment On September 12, 2013, at 9:44 AM, pdugo wrote:

    I doubt it!

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