#7 A little more on Cott

Last night PEP announced an offer for two of its bottlers, PBG and PAS. This is a change in direction for the industry as previously separating the relatively asset-lite brands (KO, PEP) from the asset intensive, low ROE bottlers (CCE, PAS, PBG) was thought to be a more efficient capital structure. These separations haven't been without their anxieties for the siblings because of concerns over pricing and marketing strategy between brand and bottler. Now PEP is proposing to bring everything (at least 80% of its distribution) back under one umbrella. My gut says these deals should close although one potential pitfall could be the cross-conditionality of the deals (ie, both must close else neither will) and I am not sure what the reaction of each board will be with respect to price and valuation. This complication could make it take slightly longer to negotiate what is effectively a three-way deal.

It will be interesting to see what KO's take is on this with respect to its own bottling operation. Also, the valuation offered for the bottlers (about 12-15x p/e) should help provide a decent valuation support for DPS (which has already rallied from $12 to $20 since early March (what a miss on my part!)). DPS or Dr Pepper Snapple Group, is the only one of the three main soda companies to have both brands and bottling under one umbrella. This had arguably caused a watering down of its valuation--brands like KO and PEP would trade at 15x+ p/e, bottlers would trade at 10x p/e, and DPS would trade 10-12x despite deserving a valuation between a bottler and a brand. One can argue DPS continues to be cheap here at roughly 12x 09 eps but I am staying on the sidelines as (1) i dont want to chase this after a 75% rally and (2) i am not sure what multiple DPS deserves as the #3 bottler. After all it isnt really a takeover target (at least not by KO or PEP for antitrust reasons) and we've seen lots of consumer/retail related companies struggle even from the #2 position (think home furnishings and home electronics as an example).

All this brings me to Cott. I really am not sure what the impact of this would be. Cott should benefit from the recession as there is a shift to private label. However the KO and PEP brands are so strong that in no way am I betting there will be a massive improvement. So, I wanted to illustrate below why we own Cott: (1) attractive on asset (pp&e) value basis (2) cheaper than peers on ev/ebitda and p/e, and (3) could actually make money this year provided we dont get into a summer price war in sodas. If i had one hope re: this PEP-PAS-PBG deal, it would be that we are less likely to see soda pricing wars, which would be immensely helpful to Cott as it tries to regain its footing.