1 Exciting Aspect of Coca-Cola's and PepsiCo's Disappointing Year

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Neither Coca-Cola (NYSE: KO  ) nor PepsiCo (NYSE: PEP  ) had a good year in 2013. Both companies' stock prices trailed the broader market by a significant margin as a result of weak beverage volume, especially in the United States.

Sales of carbonated soft drinks in the convenience-store channel declined 1.4% in 2013 -- an improvement from the 5.8% decline in 2012 but a poor showing compared to growth in prior years. The poor showing is reflected in the beverage giants' 2013 results: PepsiCo's Americas' beverage volume declined 2% and worldwide beverage volume grew just 1%, while Coca-Cola's North American case volume declined 1% and global case volume grew just 1%.

Despite the market's strong negative reaction to both companies' performances, not everything about 2013 was a disaster. Volume in Coca-Cola's non-carbonated beverage categories grew 5% in 2013 after a strong 2012. Non-carbonated beverage categories include ready-to-drink tea, juice drinks, sports drinks, and bottled water. Coca-Cola owns 11 billion-dollar brands in the non-carbonated beverage category.

Although PepsiCo does not provide as much detail on its beverage performance, it likely mirrored Coca-Cola's performance in these categories. Moreover, this segment of the companies' beverage portfolio is expected to grow at 5.8% per year through 2017 -- a promising avenue for growth in an industry marred by health concerns and negative rhetoric.

Ready-to-drink tea shines
The fastest-growing part of Coca-Cola's portfolio is ready-to-drink tea. The company's tea portfolio, which includes Honest Tea and Fuze Tea, grew volume 11% in 2013. The growth may be due in part to carbonated soft-drink customers switching to healthier beverages. Whatever the cause, the ready-to-drink tea market has been growing at a mid-single-digit pace for the last few years and is expected to top $5.3 billion in sales in 2014.

Moreover, all-time low tea prices boosted margins in 2013 and made the category even more attractive. Finally, consumers view tea as an affordable luxury, giving the category strong demand even during severe economic downturns.

PepsiCo is not blind to this trend, either. It distributes teas for Unilever and Starbucks, which own brands such as Lipton, Brisk, and Tazo. Given the industry's strong performance and Coca-Cola's double-digit volume gain, PepsiCo's tea distribution is likely a promising venture. In fact, in 2012 sales of Lipton Brisk exceeded $1 billion for the first time. As a result, both Coca-Cola and PepsiCo are benefiting from strong ready-to-drink tea sales.

Juice and sports drinks
Another bright spot for Coca-Cola in 2013 was juice and sports drinks. The company's flagship juice brand, Minute Maid, is the No. 1 global juice brand by volume and sales. Coca-Cola's juice volume grew 5% in 2013 -- far outpacing soft-drink sales. Its sports drinks, led by Powerade, grew 2%. PepsiCo's juice and sports-drinks portfolios are headlined by Tropicana and Gatorade, respectively.

Although Coca-Cola is the market leader in juice, PepsiCo claims the top spot in sports drinks. Both companies' presence in these growing categories helps offset weak soft-drink sales.

Bottled water
Finally, bottled water experienced another strong year as demand crept into the market. Coca-Cola's bottled-water volume grew 5% in 2013 as the company expanded its premium water brands Smartwater and Vitaminwater. PepsiCo's SoBe Lifewater and Aquafina put it in a close second with 10% market share, just behind Coca-Cola's 13% market share.

Bottled-water consumption has doubled in the U.S. since 1998 and will probably grow at a faster pace in the years ahead as consumers look for alternatives to sugar-filled soft drinks. Given their No. 1 and No. 2 placements in the bottled-water market, Coca-Cola and PepsiCo stand to become the largest beneficiaries of this growth.

Foolish final thoughts
About 75% of Coca-Cola's beverage volume and 64% of PepsiCo's beverage volume comes from soft drinks. A heavy weighting toward the embattled category is responsible for both companies' underperformance in 2013. However, poor soft-drink volumes mask the growth in non-carbonated beverages. As each company diversifies its portfolio away from the soft-drink category, investors can expect overall beverage volume pressure to alleviate -- paving the way for future growth.

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Ted Cooper

Ted Cooper is a value investor based in Texas. He does not ride a horse to work.

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8/31/2015 4:00 PM
KO $39.32 Down -0.13 -0.33%
Coca-Cola CAPS Rating: ****
PEP $92.93 Down -0.60 -0.64%
PepsiCo CAPS Rating: *****