GMCR announced last night that Coca-Cola was taking a 10% stake in the company. That’s the first major move by either Coke or Pepsi in the single-serve soft drinks arena.
Interestingly, KO’s stake in GMCR comes just after a controversy between KO and PEP and Sodastream, the incumbent in the single-serve soft drink sector. Sodastream hired Scarlett Johannson, and produced a high profile commercial to air during the Super Bowl (here’s the pulled ad). But Fox pulled the commercial before the Super Bowl after Coke and Pepsi, two much more important advertisers for the network than Sodastream, complained to network executives.
Coke and Pepsi clearly feel threatened by the upstart SODA. Sodastream is a $750 million company that has only been public since November 2010. The stock has lost more than half its value since its June 2013 high of $77.80, when there were rumors swirling that Coke or Pepsi might indeed be interested in acquiring SODA.
After 2 straight earnings misses in October and January, the stock hit its lowest level in more than a year this week:
The stock has bounced in the $27.50-$32.50 area on multiple occasions in the past 3 years. In the after-hours price action yesterday, the stock briefly broke $30 as traders initially interpreted the GMCR news as increased competition for SODA.
However, our initial take was that the simple entry of Coke into the market legitimizes Sodastream’s business and overall market opportunity. In fact, Coke’s competitive foray with Green Mountain might entice Pepsi to take a more serious look at SODA. After all, a $1 billion purchase of SODA would be chump change for either of the beverage behemoths.
Which is why it’s a bit surprising that neither has bought the company so far, especially since they’re obviously wasting time and energy on the potential threat from SODA (like preventing Sodastream ads from airing on the Super Bowl). Traders in the pre-market were likely thinking the same thing, as SODA bounced from $33 to over $40 in light trading ahead of the open.
Finally, SODA’s fundamental valuation is quite cheap on its own, even with no takeout consideration. Here is the stock’s trailing 12 month P/E multiple, hitting a new low near 15 this week:
SODA earned around the same in 2013 as it did in 2012 (near $2.40 per share), and that lack of earnings growth is why the stock got hammered in the second half of the year. However, the stock’s 15 P/E might now be too pessimistic, as analysts still project 10% earnings growth in 2014, which would be a good result for a 15 P/E name.
Coke’s foray into the single-serve space is clearly an indication of the value of SODA’s perch position in this growing market. SODA is at a big disadvantage with such a big-pocketed competitor, but the company has first-mover advantage and an established brand with an existing customer base and platform. That’s certainly valuable.
Implied volatility in SODA has spiked due to the overnight news:
It is now in the mid-60’s, approaching the 1 year high around 70. As a result, options are quite expensive.
However, with the $30 support area, and a possible big move to the upside if SODA does partner with a bigger company to fend off the KO/GMCR threat, a risk reversal is a volatility neutral strategy that offers upside leverage without downside risk until below $30 on expiration:
Hypothetical Trade: SODA ($38.15), Sell the Apr 30 put at $0.95, Buy the Apr 45 Call for $1.55, pay $0.60 debit for the risk reversal.
This trade only loses 60 cents down to $30 in SODA, but gives upside leverage above $45 in case SODA does get more pro-active, or PEP expresses interest over the next couple months. We might look to put on a bullish structure in SODA if the stock heads back to the low 30’s at some point in the coming weeks.