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Dr Pepper Snapple
! Group, Inc.
RECOMMENDATION: HOLD
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Stock Data
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Price (52 weeks) 33.60-42.44
! Symbol/Exchange DPS / NYSE
Beta 0.9129
Two-Year Share Price and Trading Volume:
! Shares Outstanding 226.30 million
Average daily volume 2.038 million
! Current market cap $9.28 billion
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Current Price $40.99
Dividend $0.25 per share
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Dividend Yield 2.40%
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Valuation (per share)
! DCF Analysis $43.35
Comparables Analysis $73.93
! Target Price $43.35 !
Current Price $40.99
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Summary Financials
! 2010A
Revenue $5.636 billion
Net Income $528 million
Operating Cash Flow $163.65 million
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The University of Oregon Investment Group (UOIG) is a student run organization whose purpose is strictly educational.
Member students are not certified or licensed to give investment advice or analyze securities, nor do they purport to be.
Members of UOIG may have clerked, interned or held various employment positions with firms held in UOIGs portfolio. In
addition, members of UOIG may attempt to obtain employment positions with firms held in UOIGs portfolio.
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Dr Pepper Snapple Group, Inc. University of Oregon Investment Group
http://uoig.uoregon.edu
BUSINESS OVERVIEW
Dr Pepper Snapple Group, Inc. (DPS) is an integrated beverage brand owner, manufacturer, and distributor of
non-alcoholic beverages in the U.S. (89% of sales), Canada (4% of sales), and Mexico and the Caribbean (7% of
sales). DPS was spun off from Cadbury Schweppes on May 5, 2008, and began trading on the NYSE on May 7,
2008. Headquartered in Plano, Texas, Dr Pepper Snapple Group, Inc. is a leading provider of flavored carbonated
soft drinks (CSDs) and non-carbonated beverages (NCBs). They have built their success through strategically
acquiring beverage brands and then building them into leaders in their category. Examples of these key brands
include:
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The firms operations are divided into three key segments: Beverage Concentrates, Packaged Beverages, and
Latin America Beverages.
Historical Performance:
Historical Performance:
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Dr Pepper Snapple Group, Inc. University of Oregon Investment Group
http://uoig.uoregon.edu
Historical Performance:
Dr Pepper Snapple Group, Inc. outlines six key elements to their overall business strategy:
Build and enhance leading brands DPS spends a great deal of time identifying the brands that have the
greatest potential for profitable growth, and then invests heavily in innovating and developing these
brands to match consumer preferences.
Focus on opportunities in high growth and high margin categories The most recent trend in the liquid
refreshment beverage (LRB) industry is the emergence of alternative beverages such as flavored waters
and energy drinks. These beverages tend to be healthier than traditional soft drinks and/or provide a
functional benefit such as caffeine or taurine.
Increase presence in high margin channels and packages High margin retail locations include
convenience stores, vending machines, and independent retail outlets. Volume in these channels is
expected to grow as the economy recovers, consumer confidence increases, and people have more
discretionary income. DPS is taking advantage of this by investing in branded coolers and other cold
drink equipment specific to their well-known brands. High margin packages tend to be smaller serving
sizes and single-serve packages, which DPS plans to increase demand for through heavy promotional
activity.
Leverage our integrated business model The LRB industry experiences strong benefits from economies
of scope and through vertical integration. Dr Pepper Snapples brands cover a wide variety of beverage
segments, and their integrated business model allows them to align the economic goals of their business
as a whole.
Strengthen our route-to-market Recently, this has involved heavy investments in information
technology infrastructure, especially in Mexico and the Caribbean. Additionally, DPS has developed
systems for third party bottlers and distributors to help maintain priority for their brands in other
companies systems.
Improve operating efficiency The major component of this strategy is Dr Pepper Snapples recent Rapid
Continuous Improvement (RCI) initiative that they began in 2010. This initiative involves the
development of Lean business practices and Six Sigma efficiencies throughout the company.
The majority of the companys focus seems to be on building and enhancing their leading brands and improving
operating efficiency. As the US economy recovers from the recession and people have more discretionary income,
they will begin returning to the brands they are familiar with and loyal to. DPS plans to take advantage of this
through heavy advertising and investments in current brands and product lines. For example, they plan to launch
the new beverage Dr Pepper 10, a low calorie soft drink for men, nationwide in 2011. Additionally, after DPS was
spun off from Cadbury Schweppes in 2008, managements focus was on transitioning into a standalone beverage
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Dr Pepper Snapple Group, Inc. University of Oregon Investment Group
http://uoig.uoregon.edu
business. Now that the transition is largely complete, management can focus more time and resources toward
improving Dr Pepper Snapples operations. This is evident in their recent RCI initiative, which has already
produced promising results.
One major concern with DPSs growth strategy is their lack of focus on the alternative and functional beverage
markets. These markets have seen strong growth as consumer preferences shift away from unhealthy CSDs
toward healthier options. However, DPS continues to focus the majority of their resources on existing and new
carbonated soft drinks. In fact, during their 2010 annual earnings call, when asked whether or not DPS plans to
participate more actively in non-carbonated beverage categories, President and CEO Larry Young responded:
No, were still very happy with our portfolio we stay focused on the total portfolio, but we are putting
a lot of emphasis right now on our carbonated soft drinks. As I mentioned a moment ago, I think with the
tough economic times were going to see people come back in and recognize that value. Thats where
were putting a strong focus.
I feel that this lack of consideration for the strength of emerging product categories will be a missed growth
opportunity for Dr Pepper Snapple going forward.
Finally, a key point to note is Dr Pepper Snapples relatively low international exposure. They currently only
operate in the US, Canada, and Mexico and the Caribbean. This presents a significant growth opportunity into
international markets. However, since DPS has not indicated any intention of international expansion, I did not
consider it in my quantitative valuations.
Larry Young was appointed to CEO and President of Martin Ellen has over 25 years of broad experience as a
DPS in 2007 after leading the spinoff from Cadbury financial officer in a wide variety of industries. Before
Schweppes. He has approximately 30 years of joining DPS, Martin Ellen was the CFO at Whitman
experience in the beverage industry, beginning as a
Corporation, which then owned Pepsi Cola General
worker on a route truck and working his way up. His
30-year career includes 25 years in the PepsiCo family Bottlers, Inc. He is not on the companys Board of
of businesses. Including his role as CEO of DPS, he Directors
also serves on the companys Board of Directors.
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Dr Pepper Snapple Group, Inc. University of Oregon Investment Group
http://uoig.uoregon.edu
PORTFOLIO HISTORY
Tall Firs:
o Purchased 600 shares on 10/8/2009 at a cost basis of $17,580. This holding is currently worth
$24,864, representing a return of 41.43%.
Svigals:
o Purchased 68 shares on 10/2/2009 at a cost basis of $1,926.43. This holding is currently worth
$2,792.08, representing a return of 44.94%.
RECENT NEWS
April 27, 2011 Dr Pepper beats, keeps view despite cost spikes (Reuters.com)
DPS beat earnings earnings estimates for Q1 2011. However, they did not increase their outlook for the rest of the
year. Some analysts interpret this as a sign of slower growth going forward. However, others viewed it as a sign
of strength as commodity prices are expected to rise significantly in the coming years.
April 29, 2011 Consumer Sentiment in U.S. Increased in April on Jobs (Bloomberg.com)
Signs of job growth are finally starting to boost consumer confidence. With more jobs and recovering consumer
sentiment, firms whose sales depend on discretionary purchases, such as DPS, are expected to benefit.
May 11, 2011 Dr Pepper Snapple Group Stock Hits New 52-Week High (TheStreet.com)
As of May 11, 2011, DPS began trading at a new 52-week high, and has recently begun trading at an all-time high
around $42 per share. These figures have been seen as both attractive and troublesome to different investors.
May 16, 2011 - Dr Pepper files trademarks for more low-cal sodas (MarketWatch.com)
Following the success of Dr Pepper 10 in its test markets earlier this year, Dr Pepper has filed trademarks for
Canada Dry 10, Seven Up 10, and A&W 10. DPS has not stated any definite plans to launch these products, but
this signals their intention to compete more heavily in the healthier, lower calorie drink markets.
INDUSTRY
The liquid refreshment beverage (LRB) industry as a whole is experiencing growth that is mostly in line with the
growth of the economy. Since DPS has product offerings in most of the categories within the LRB industry, a
breakdown by sub-industry is helpful.
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Dr Pepper Snapple Group, Inc. University of Oregon Investment Group
http://uoig.uoregon.edu
strong brand names and pricing power will be able to manage their margins and maintain profitability.
Since syrups and concentrates have to be turned into finished beverages before being sold to the end consumer,
the demand for this industry is dependent on the demand for carbonated soft drinks, juices, and other beverages.
As a result, the syrup and flavoring production industry has seen an overall decline of around 5.5% in the last five
years due to lower levels of discretionary income and shifts in consumer tastes away from unhealthy beverages. It
is expected that the industry will grow slowly over the next five years as discretionary income recovers with the
economy and alternative and functional beverages grow.
Although the industry is expected to decline, it is highly concentrated with key players who will likely be able to
maintain profitability through their strong brand offerings and pricing power. These major players are able to
make strategic acquisitions of alternative beverage brands that they can sell at a premium. The major players in
this industry are Coca-Cola (43.7%), PepsiCo (35.4%), and Dr Pepper Snapple (15.0%).
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Vertical integration is a key trend in this industry. Both The Coca-Cola Company and PepsiCo, Inc. have acquired
all or a majority share of their respective bottling and distribution companies. This trend is a result of pressured
margins and the goal of integrated beverage firms to operate their entire supply chain as profitably as possible.
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Dr Pepper Snapple Group, Inc. University of Oregon Investment Group
http://uoig.uoregon.edu
PepsiCo, Inc., The Coca-Cola Company, and Dr Pepper Snapple Group, Inc. are the major players in this industry
with market shares of 35.0%, 18.5%, and 6.4%, respectively. This market concentration grants these firms strong
brand recognition and pricing power.
Similar to the carbonated soft drink industry, the success of the fruit juice and functional beverage industry is
largely dependent on discretionary income. As consumer sentiment increases, this industry is likely to experience
growth. However, it is possible that consumer curiosity concerning functional beverages has been exhausted. This
suggests that people will begin turning toward the brands they are most familiar with, placing much greater
importance on individual brand advertising in this industry.
As an integrated beverage company, Dr Pepper Snapple must face the changing landscape of the liquid
refreshment beverage industry. Consumer preference and income drive this industry. Consequently, increasing
disposable income and a greater demand for healthy and functional beverages present DPS with considerable
opportunities going forward.
S.W.O.T. ANALYSIS
Strengths Weaknesses
Strong, recognizable beverage brands in a Continued focus on carbonated soft drinks
number of markets (most brands are #1 or #2 in rather than alternative and functional beverages
their product category) Considerably smaller in size than their two
Management team with a wealth of experience major competitors Coca-Cola and PepsiCo
in the LRB industry Lack of international exposure
Separation from Cadbury Schweppes allows
continued ability to focus resources on their
beverage business
Strong relationships with key customers
Integrated business model allows for alignment
of company goals at multiple levels of
operations
Opportunities Threats
Increasingly health conscious consumers Margins could be hurt by rising and volatile
demand alternative and functional beverage commodity prices
options Unforeseen changes in consumer preferences
The recovering economy suggests people with
have more discretionary income, leading to
more impulse purchases at convenience store
and grocery outlets
Relatively limited international presence leaves
room for considerable expansion abroad
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Dr Pepper Snapple Group, Inc. University of Oregon Investment Group
http://uoig.uoregon.edu
in affecting the prices they pay for these commodities. They do have some hedges in place to protect against large
fluctuations in commodity markets, but they still have little control over the prices they ultimately end up paying.
COMPARABLES ANALYSIS
In conducting a comparables analysis for Dr Pepper Snapple Group, I focused on companies in the liquid
refreshment beverage industry that had operations in manufacturing, bottling, and distribution. It was difficult to
find companies with the same combination of strong brands, diversified product offerings, relatively small size,
and integrated business model as Dr Pepper Snapple, so I chose companies that balanced these elements.
Ultimately, I placed a greater weight on a diversified portfolio of strong brands because this is Dr Pepper
Snapples key strength and the growth element that they stress the most.
The multiples I chose to use are EV/Revenue, EV/Gross Profit, EV/EBITDA, EV/(EBITDA-CapEx) because they
provide an overall picture of how well a firm can generate revenue, manage margins, and generate sustainable
cash flow without worrying about differences in accounting standards.
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Dr Pepper Snapple Group, Inc. University of Oregon Investment Group
http://uoig.uoregon.edu
acquired include Glaceau (makers of Vitamin Water and SmartWater), FUZE, Dasani, Powerade, Honest Teas,
and Full Throttle.
I chose to weight The Coca-Cola Company at 35% because they are the nearest company to being a pure-play
competitor with Dr Pepper Snapple. They have very strong brands in all major non-alcoholic beverage category,
they focus on expanding their existing brands whenever possible, and look to acquire alternative beverage brands
in order to compete in those markets and achieve greater economics of scope. Additionally, DPS has a distribution
agreement with KO, meaning that KO distributes some Dr Pepper Snapple brands throughout the US and Canada.
The key differences between The Coca-Cola company and Dr Pepper Snapple are that they are much larger in size
and they have much more international exposure.
I chose to weight PepsiCo, Inc. at 35% because they compete with Dr Pepper Snapple in ever major non-alcoholic
beverage segment with strong brands and their beverage operations have a closer size to DPS than KOs. In spite
of this similarity in size for beverage operations, PepsiCo, Inc. also operates heavily in the lower margin snack
food market with their Quaker and FritoLay brands, in which DPS has no presence.
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Dr Pepper Snapple Group, Inc. University of Oregon Investment Group
http://uoig.uoregon.edu
However, they are much smaller in size and scope than DPS and have much weaker brand strength.
My comparables analysis resulted in a large undervaluation. It is unclear exactly what is causing this price
discrepancy, but it is possibly due to the huge acquisitions made The Coca-Cola Company and PepsiCo, Inc. in
2010 that drastically changed the structure of these two firms. Additionally, it is difficult to make an accurate
comparables analysis in this industry due to the extremely high market concentration. It would be impossible to
do a comparables analysis of Dr Pepper Snapple, Inc. without including KO and PEP, but they are fundamentally
different firms in size, scope, product offerings, growth opportunities, and global exposure. Hansens and
National Beverage Corp. have similar geographic coverage to Dr Pepper Snapple, but they do not have the same
level of brand equity and product offerings. As a result, I decided to weight my comparables analysis at 0% in my
final valuation for Dr Pepper Snapple, Inc.
Revenue
Looking forward, I see DPS growing their revenue through a combination of greater sales volume and price
increases. This will largely be a function of growing consumer confidence and greater discretionary income. As a
result, I see DPS growing in line with management guidance of around 3-5% for 2011. I stayed on the
conservative end of estimates because price increases from earlier in the year are not likely to continue increasing,
and planned product rollouts have unproven results. Beyond 2011, I trended revenue growth down because I feel
that Dr Pepper Snapples continued focus on carbonated soft drinks and North American markets will cause them
to suffer lower levels of growth.
Beverage Concentrates
The beverage concentrates segments performance directly depends on downstream demand from the packaged
beverage segments. However, I project stronger growth from this segment because of its exposure to fountain
beverages. As the economy recovers, consumers not only spend more discretionary income at grocers and
convenience stores, but at restaurants, as well. This will lead to increased growth in this segment. I then project
this segments revenue to trend downward because of Dr Pepper Snapples focus on unhealthy soft drinks and
lack of international expansion.
Packaged Beverages
Increased consumer confidence and discretionary income will lead them to make more purchases at convenience
stores, grocery stores, and vending machines. This will greatly help this segment. However, again, DPSs focus
on unhealthy beverages will dampen this segments growth in the longer term. As a result, I project conservative
growth for this segment that slowly trends downward.
Cost of Revenue
For Dr Pepper Snapple, cost of revenue is almost entirely comprised of PET, diesel fuel, corn (for high fructose
corn syrup), aluminum, sucrose, and natural gas. Prices for these inputs are largely determined by commodities
markets and are greatly affected by changes in energy and oil prices. Since prices for oil and energy are expected
to rise in future years, I projected that cost of revenue will increase nominally every year. Management guidance
predicts cost of revenue will increase between 6 and 7% for year end 2011. I trended cost of revenue up as a
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Dr Pepper Snapple Group, Inc. University of Oregon Investment Group
http://uoig.uoregon.edu
percent of revenue through 2014 and then trended it downward to slightly above historic levels because Dr Pepper
Snapples pricing power will allow them to manage their gross margin going forward.
Tax Rate
Management guidance predicted a tax rate of around 35% for the rest of 2011. Since this rate is consistent with
previous tax rates, I kept the tax rate at 35% through the terminal year.
DPS received a large cash payment from their recent licensing deals with The Coca-Cola Company and PepsiCo,
Inc. I decided to trend this cash amount down toward normal levels until 2017.
Capital Expenditures
Management expects to incur annual capital expenditures around 4.5% of revenues on purchases of replacement
equipment, system upgrades, and expansions to the distribution fleet.
Acquisitions
Acquisitions allow firms in the beverage industry to maintain revenue growth through the addition of new brands
to a firms portfolio and extended geographic distribution coverage. Since management has not explicitly stated
any plans to make an acquisition in the near future and has stressed their focus on current brands, I did not project
any acquisitions in the next three years. However, I do project that Dr Pepper Snapple will make two acquisitions
within the next ten years. To consider this in my valuation, I looked at the medium-sized acquisition of FUZE
Healthy Infusions by The Coca-Cola Company in 2007, which was approximately $225 million. I multiplied this
value by two, and then divided that amount between the years of 2014E through 2020E, with the later years
weighted heavier because I believe that DPS has a greater probability of making acquisitions in later years. In the
terminal year, I dropped acquisitions down to $20 million to represent a rate of one acquisition every ten years.
Beta
I ran a three-year monthly regression against the S&P 500 and got a beta of 0.9129. I also ran a three-year weekly,
two-year monthly, and two-year weekly, which all resulted in very different betas. I ultimately decided to use the
beta from the three-year monthly because it took into account the entire period that DPS has been a publicly
traded company and because this beta is most in line with other estimates. I found a Hamada beta, but in
accordance with my lack of confidence in the comparability of DPS directly with other companies in the industry,
I decided that this beta did not accurately represent the risk of DPS going forward. Consequently, I decided that a
beta of 0.9129 best represented Dr Pepper Snapples risk and growth going forward.
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Dr Pepper Snapple Group, Inc. University of Oregon Investment Group
http://uoig.uoregon.edu
Cost of Debt
Dr Pepper Snapple has six sets of unsecured notes with six different interest rates. Two of these sets of notes were
issued recently and come due soon with very low interest rates. As a result, the debt that is due farther in the
future is a better representation of Dr Pepper Snapples cost of debt. To calculate the cost of debt, I took a
weighted average of the three sets of unsecured notes that mature in 2016, 2018, and 2038. This gave me a cost of
debt of 5.59%.
RECOMMENDATION
Dr Pepper Snapple, Inc. is in a strong position to benefit from the recovering economy and improved consumer
sentiment. With a portfolio of powerful brand names, strong marketing, and focused management, DPS is going
to see revenue grow and operations become more efficient. However, their continued focus on carbonated soft
drinks could limit their growth as alternative and functional beverages gain popularity over unhealthy sodas.
Recently, Dr Pepper Snapple has been issuing larger dividends, repurchasing shares, and writing off debt. These
are all signs of a successful, stable firm with strong cash flows. For my quantitative valuation, I decided to weight
my comparables analysis at 0% and my discounted cash flow at 100%. For the reasons stated earlier in the report,
Dr Pepper Snapples comparable companies do not convey an accurate valuation of the firm. My discounted cash
flows resulted in a small undervaluation. Ultimately, Dr Pepper Snapples integrated business model and strong
brand portfolio, when coupled with the recovering economy, suggest that there is still value in this company. I
recommend a HOLD for both the Tall Firs and Svigals portfolios.
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Dr Pepper Snapple Group, Inc. University of Oregon Investment Group
http://uoig.uoregon.edu
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Dr Pepper Snapple Group, Inc. University of Oregon Investment Group
http://uoig.uoregon.edu
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Dr Pepper Snapple Group, Inc. University of Oregon Investment Group
http://uoig.uoregon.edu
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Dr Pepper Snapple Group, Inc. University of Oregon Investment Group
http://uoig.uoregon.edu
APPENDIX 6 SOURCES
SEC Filings
Dr Pepper Snapple Investor Relations
Yahoo! Finance
Google Finance
Reuters
Bloomberg
The Wall Street Journal
S&P NetAdvantage
IBISWorld
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