In late January, Dr Pepper Snapple Group Inc. (NYSE:DPS) agreed to a buy-out by privately held Keurig Green Mountain. The deal will give DPS stock owners one share of the combined entity along with $103.75 in cash.
Current shareholders would own about 13% of the new combined company. DPS stock soared to $136 per share on the announcement, falling back $20 later that day after the true value of the deal was analyzed.
With DPS stock at $118, holders may be wondering if they should sell out here or take a position in the new company.
I think you should take the money and run. Sell out now. I don’t particularly care for the deal.
The Past as Prologue
To understand my position on the deal, you have to go back to 2015. That’s when JAB Holding Company, a private firm, bought out Keurig Green Mountain for $14 billion. The coffee pod maker had seen wide swings in net income from quarter to quarter and year to year. Sales were showing considerable slumps. And its new Keurig Kold system received tepid reaction from consumers.
Keurig’s last earnings report before being acquired was just terrible. Net sales fell 13%, operating income dropped 20%, net income was off 15%, and that was just for that particular quarter. Adding to its troubles were pod sales slipping almost 9% , while brewers and accessories cratered a whopping 32%.
Meanwhile the company had blown through almost $1 billion in cold, hard cash, repurchasing just 9.5 million shares of stock. Management had earlier been buying back stock at almost $100 a share, while the price was about half that at the time of the report.
Since being acquired, things haven’t improved terribly much. Pod volume growth is only 3% on an annual compounded basis, while net sales have decreased at a 3% annualized compound rate.
In short, Keurig is going to earn several hundred million dollars less this year than it did in 2015. Mind you, the company has also enjoyed low coffee prices for quite some time. This is a commodity-driven business, and those prices could skyrocket at any time.
That being said, the company always did have good cash flow, and consequently has cut debt from $5.7 billion to $3.3 billion.
Combined Won’t Be Enough
However, DPS stock hasn’t been driven by massive revenue increases, either. Its compound annual growth rate going back to 2013 has only been 2.8%. The compound growth rate for adjusted operating income was 5.5% in that same period.
I’m not saying that this combined company is going to be some kind of disaster. I think it will do just fine. But just fine won’t be enough for me. I want to see at least Peter Lynch ,stalwart level of earnings growth — 8% to 10% on a regular basis.
I actually think that drinks competitors The Coca-Cola Co (NYSE:KO) and PepsiCo, Inc. (NASDAQ:PEP) have better growth prospects. With their carefully outlined plans to move away from sugary drinks into different kinds of products, I think you have more potential upside in those two.
I also think there’s more potential upside in any one of a number of alcoholic beverage companies. So for now, I would suggest you sell out of DPS stock and put the money elsewhere.
Lawrence Meyers is the CEO of PDL Capital, a specialty lender focusing on consumer finance and is the Manager of The Liberty Portfolio at www.thelibertyportfolio.com. He does not own any stock mentioned. He has 23 years’ experience in the stock market, and has written more than 2,000 articles on investing. Lawrence Meyers can be reached at TheLibertyPortfolio@gmail.com.
