PepsiCo (PEP 0.45%) and Coca-Cola (KO +0.74%) have been in a cola war for many years. While PepsiCo targets younger generations of soda drinkers, Coca-Cola's tends to control the older demographics. Coca-Cola has always stayed ahead in the soft drink battle, and it now has more than 40% market share in the carbonated soft drink market. PepsiCo ranks second with only 28% market share. However, PepsiCo has fought back aggressively, especially in the restaurant chain market. For instance, PepsiCo has recently replaced Coca-Cola as the beverage supplier of fast-growing restaurant chain Buffalo Wild Wings (BWLD +0.00%).
PepsiCo's profit mainly comes from the food business
PepsiCo is the second-largest soft drink company in the world. However, its biggest profit source is actually the food business, via Frito-Lay North America. In fiscal 2012, Frito-Lay North America generated $13.58 billion in revenue and $3.65 billion in operating profit for the company, accounting for 35% of its total operating profit. PepsiCo's America Beverage segment contributed the largest portion of revenue for the company, but this segment only generated $2.97 billion in profit in 2012.
Many investors, including the famous activist investor Nelson Peltz, have been pushing PepsiCo to break up into two businesses, soft drinks and foods, so that each business can independently pursue different growth initiatives. However, the deal with Buffalo Wild Wings could prove that PepsiCo's food business helps its beverage business a lot.
A beneficial partnership
The switch to PepsiCo could provide a good advantage for Buffalo Wild Wings itself. First, early next year, Buffalo Wild Wings will create a new menu offering which includes PepsiCo's Doritos. Buffalo Wild Wings' upcoming move with Doritos might rely on the recent success of Taco Bell's popular Doritos Locos Tacos, which have just surpassed $1 billion in sales. Second, PepsiCo and Buffalo Wild Wings serve similar customers: young men who love watching sports.
The relationship with PepsiCo will help Buffalo Wild Wings take advantage of PepsiCo's relationships with major league sports organizations such as Major League Baseball and the National Football League. Indra Nooyi, PepsiCo's Chairman and CEO, feels happy with the new partnership with Buffalo Wild Wings. She said
We see tremendous opportunities to leverage PepsiCo's diverse food and beverage portfolio in ways that benefit both companies through exciting innovations, unique customer engagement programs and powerful brand activations tied to sports and entertainment.
Indeed, PepsiCo will be serving Buffalo Wild Wings' 975 restaurants in 49 states and Canada. However, Coca-Cola will still remain the leader in the U.S. fountain soda business, with a whopping market share of 70%. Moreover, in order to generate a higher return on invested capital, Coca-Cola plans to return to its original franchise model in North America instead of the current bottlers ownership model. At the current price of $39.30 per share, Coca-Cola is valued at 17.65 times its forward earnings. PepsiCo has a forward earnings multiple that's a bit lower at 17.17. Both are also quite alike in terms of their dividend yields at 2.80% and their payout ratios of around 52%-57%.
My Foolish take
PepsiCo and Coca-Cola are safe bets in the soft drink industry because of their global leadership positions. PepsiCo will definitely improve its sales and profitability by leveraging its recent partnership with Buffalo Wild Wings via its condensed network of restaurants in the U.S. and Canada. Coca-Cola, on the other hand, possesses a wonderful moat with a huge market share in the carbonated soft drink market. I expect that Coca-Cola shares will move higher when the company comes back to a higher-return franchise model in North America.
