Refranchising Results in Declining Revenues But Improves Margins For Coca-Cola

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KO: The Coca-Cola Company logo
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The Coca-Cola Company

Amid a shift in consumer preferences away from sugary beverages, The Coca-Cola Company (NYSE:KO) delivered a solid third quarter and managed to beat consensus estimates on both sales and earnings. This was made possible by a concerted focus on prices and drinks such as Coca-Cola Zero Sugar. While the revenue fell year-on-year, as a result of the company’s refranchising efforts, it surpassed expectations by over 4%. The earnings of 50 cents a share came in higher than the flat earnings growth that was anticipated. KO made up for the flat volumes by resorting to price increases and selling greater volumes of its higher margin products.

Success Of Coca-Cola Zero Sugar

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Coca-Cola has suffered as a result of the decline in soda consumption, which fell to a 30-year low in 2015. Thus, as Americans steer clear of sodas in favor of healthier beverages such as bottled water, juices, and teas, Coca-Cola is also making efforts to keep up with this trend. The company recently announced the acquisition of Topo Chico, a premium sparkling mineral water brand. The brand has had a runaway success in Texas, where it is leading the category. Currently, it is being sold in Northern Mexico and 35 US states, with Texas contributing to 70% of the US sales. The brand has a loyal Hispanic customer base and has managed to garner a strong millennial following. Estimates have pinned the brand’s revenues at over $60 million, which are minuscule compared to Coca-Cola’s. However, this acquisition will give the cola giant a strong foothold in the fast-growing sparkling water space. Furthermore, given Coca-Cola’s strong marketing and distribution, it will be able to vastly scale up this brand. By focusing on a product which is outside of the company’s traditional carbonated soft drinks space, it is acknowledging the shift in consumer preferences away from the sugary beverages and is taking steps to make up for the potential loss of revenue.

Coca-Cola also revamped its Coke Zero into Coca-Cola Zero Sugar in the US in August. The product had been launched in the United Kingdom last year, and the company continues its roll-out to other markets around the world, leveraging the insights gained from the launch in the UK. Year-to-date, the global volume and revenue for the brand are growing at double-digits. The company intends to reformulate a number of brands besides Coke Zero as it clambers to keep up to pace with the changing preferences. Coca-Cola already has various juice, sports-drink, water, dairy, and tea brands in its portfolio.

Refranchising Helps To Improve Margins

Coca-Cola has undertaken a number of steps to improve its margins, which should have a positive impact in the coming quarters. Some of these have been listed below:

1. Coca-Cola is refranchising many of its bottling operations in a bid to move away from the capital intensive and low margin business of bottling. The company is nearing the completion of this process, with the US transaction to be closed in the coming weeks, and the African and Canadian operations to be completed in 2018.

2. The company has been undertaking certain productivity initiatives, such as the restructuring of the global supply chain, incorporating zero-based budgeting, and streamlining the operating model, that have driven operating margin expansion in both Q3 as well as year-to-date.

3. Coca-Cola is focusing on high-margin products to drive profitability. For example, the company is de-emphasizing low-margin water in China, which had a negative impact on volumes, but didn’t affect the profitability.

See our complete analysis for The Coca-Cola Company

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Notes:

1) The purpose of these analyses is to help readers focus on a few important things. We hope such communication sparks thinking, and encourages readers to comment and ask questions on the comment section, or email content@trefis.com
2) Figures mentioned are approximate values to help our readers remember the key concepts more intuitively. For precise figures, please refer to our complete analysis for Coca-Cola

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