America’s premier soft drink companies recently jumped into the headlines, as both Coca-Cola Co. (NYSE: KO) and PepsiCo Inc. (NYSE: PEP) were forced to restructure their operations.

In years past, it was far easier letting others handle their bottling operations. With today’s economy, these two soda giants are now rethinking this strategy…

PepsiCo announced on Monday that it offered to purchase the outstanding shares of its two largest bottlers, PepsiAmericas (NYSE: PAS) and Pepsi Bottling Group (NYSE: PBG). This pushed shares of the two bottlers sky high:

But as you can see in the chart, shares of PepsiCo weren’t so lucky. The stock is down about 8% since the company announced the buyouts.

Why make a deal like this? Because, business isn’t as good as it used to be, and this should save an estimated $200 million in annual costs by reducing the many redundant operations.

Pepsi’s net income fell from $1.3 billion to $800 million. We can contribute three major causes for this fall: the failed rebranding of Gatorade, cutbacks by consumers, and early restructuring costs.

The Gatorade part of this equation is simple… when the sports drink was launched under the new name “G” last year it had early success. Today, it’s lost its effect. It’s still the same old Gatorade, and no one is fooled anymore.

But it’s the scale of the consumer cutbacks that blows us away…

Coca-Cola and Pepsi were once considered recession-resistant companies. That was one of Warren Buffett’s original reasons for buying his large position in Coke in the late 1980s. Unfortunately, not even Buffett has been able to handle this recession. Last year Berkshire Hathaway saw its net income fall 62%.

Coke and Pepsi are both struggling to keep customers buying. Both companies reported a 10% decline in profits during the first quarter. In the short term, this could be disastrous for share prices. But it does give us some small cap opportunities.

You see, if the soda giants are buying up bottlers to save costs — even if they have to pay a premium to make the deals — then the smart money should buy up bottling companies. With the exception of the two bottlers PepsiCo mentioned above, the majority of them are small caps. These are normally regional players with hefty contracts with some of the largest manufacturers in the world.

Take this small cap bottler with massive ties to Coca-Cola… Remember, Coca-Cola is still working on its restructuring deal. This bottler is so close to the Coke brand, it goes by almost the exact same name… Coca-Cola Bottling Co. Consolidated (NASDAQ: COKE).

COKE is the second largest U.S. Coca-Cola bottler. It brings in about $1.5 billion per year in revenue through its operations in 11 southeastern U.S. states.

Using the Pepsi deals above as our benchmark, shareholders could be looking at a quick double if faced with a buyout. Keep in mind, the Pepsi deals pushed those two bottlers up as soon as the market opened. If you take a chance on COKE, it could be like doubling your money over night.

Of course, there are always unknowns in these kinds of deals. We can’t tell for sure if Coca-Cola will buy COKE at all. And if they do, there might be more wiggle room than Pepsi had, meaning COKE shareholders might not even see a premium for their shares.

Sincerely,
Jim Nelson

April 23, 2009

Jim Nelson

Jim Nelson began his investing career during the tech boom at age 14 – with purchases of Starbucks and AOL. Early inspiration came from an old Tweedy Brown whitepaper: “What Works in the Market.” He graduated with a degree in Political Science from Pittsburgh University, Nelson focuses on income investing, including dividends, covered calls, and fixed-income. Additionally, he covers MLPs, ADRs, utilities, consumer staples and tobacco. Nelson is the managing editor of Lifetime Income Report.

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