Coca-Cola (KO - Free Report) announced on Friday that it is set to purchase UK coffee giant Costa for $5.1 billion as it tries to expand its portfolio beyond sugary drinks. The move follows Coke’s recent investment in sports drink upstart and potential Gatorade (PEP - Free Report) rival BodyArmor. So, what should investors do with KO stock, which is down roughly 2% over the last 12 months, as the beverage behemoth readies itself for the future?
Coke’s new CEO James Quincey, who took over in May 2017, has made it his mission to push the company into new potential growth areas as the sugary drink market faces a downturn. Coke’s $5.1 billion acquisition of UK-based Costa gives Coke a new retail presence and a solid footing in the ever-expanding coffee market.
Costa currently boasts roughly 4,000 cafes, with about 2,500 in the UK. The company also sells coffee in gas stations and grocery stores. Plus, Costa is actively expanding its reach in China, which could prove vital for Coke and help it take on Starbucks (SBUX - Free Report) is the world’s second-largest economy.
Clearly, Costa is a much smaller company than Starbucks and is much less known in North and South America, where Starbucks has over 16,000 locations. But Costa is a bigger player in the UK than Starbucks and has over 450 locations in China. “Costa gives Coca-Cola new capabilities and expertise in coffee, and our system can create opportunities to grow the Costa brand worldwide,” Quincey said in a company statement.
“Hot beverages is one of the few segments of the total beverage landscape where Coca-Cola does not have a global brand. Costa gives us access to this market with a strong coffee platform.”
Costa grabbed $1.69 billion in revenue during its most recent fiscal year, which is nothing compared to Coke’s $35.4 billion. But the deal, which the beverage giant expects to close in the middle of 2019, marks its largest ever purchase and demonstrates Coke’s goal to become a more diversified company—which now includes retail. Coke’s CEO said the firm has no current plans to open Costa shops in the U.S., but did say it wants to bring Costa coffee beans and vending to restaurants, gas stations, and college campuses.
Coke’s Costa purchase will mark its largest-ever acquisition. The company’s previous record was its $4.1 billion purchase in 2007 of the maker of vitaminwater and smartwater. The man behind Glaceau, which made both beverages, also started sports drink newcomer BodyArmor.
Earlier in August, Coke announced that it had purchased a significant stake in BodyArmor, which aims to stand out as a healthier, more natural option compared to Gatorade. The terms of Coke’s deal give it the option to eventually purchase a majority of the company.
The Atlanta-based beverage powerhouse already plans to place BodyArmor in front of Powerade to challenge PepsiCo’s Gatorade. Coke’s investment might also see BodyArmor move on from Keurig Dr. Pepper Inc. (KDP - Free Report) , which began to invest in the sports drink firm a few years back when it was still Dr. Pepper Snapple Group.
Coke’s latest two moves highlight the growing need to sell more than soda and also follows PepsiCo's recent purchase of SodaStream International Ltd. (SODA - Free Report) .
Price Movement & Valuation
Shares of KO have climbed only 15% in the last three years, which lags the S&P’s roughly 50% surge. Things looks even worse for Coke stock over the last 24 months, with shares up just over 3%, against the S&P’s 35% jump. However, investors should note that KO stock has popped around 3.5% during the last three months.
Moving on, Coke is currently trading at 20.7X forward 12-month Zacks Consensus EPS estimates, which marks a premium compared to the S&P’s 17.6X, but falls in line with its industry’s 20.9X average. KO has traded as high as 24.2X over the last year, with a one-year median of 21.4X. But investors should note that Coke stock is currently trading well above its five-year low of 16.7 and slightly higher than its one-year low of 19.2X. Therefore, its valuation picture appears just a tad stretched at the moment.
Looking ahead, Coke’s current quarterly revenues are projected to sink by 9.2% to hit $8.24 billion, based on our current Zacks Consensus Estimate. Meanwhile, the company’s full-year revenues are projected to fall by 9.6% to reach $32.02 billion.
However, at the other end of the income statement, KO’s adjusted quarterly earnings are projected to pop 10% to touch $0.55 per share, while its full-year earnings are expected to jump by 8.4%.
Coke has also seen mixed earnings estimate revision activity over the last 60 days, and is currently a Zacks Rank #3 (Hold). Plus, KO stock is resting not too far below its 52-week high, which means it might be time to keep an eye on Coke for now to see if some of its recent expansion plans work out.
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