Can you appreciate a good Oreo?
Over the last week, quite a bit of interest has been placed on the traditionally slow-paced consumer goods sector. At the Delivering Alpha Conference, presented by CNBC and Institutional Investor, one institutional investor in particular caused some stir within the sector by outlaying a proposal forPepsiCo (NYSE: PEP) . Trian Fund Management's Nelson Peltz stated that Pepsi should acquire snack maker, Mondelez International (NASDAQ: MDLZ) . Shares of Mondelez traded slightly higher at $30 per share, well under the proposed range of $35-$38 per share, after the announcement.
Who is Peltz?
Before we go further, I would like to give you some background on Nelson Peltz to better weight the value of his proposal. Peltz got his start in the food industry in 1963 after dropping out college to help his family business. He worked for his father's w holesale food distribution business, which delivered fresh produce and frozen food to restaurants in New York. Peltz eventually took over the company, and over the next 15 years he took the company's revenue from $2.5 million to $150 million prior to it being acquired in 1988. Since then, he has built himself a reputation as an aggressive activist investor with involvement in deals including Kraft, Cadbury, Snapple, and Wendy's, to name just a few. According to the most recent regulatory fillings, Trian owned 12 million shares of Pepsi and 40 million shares of Mondelez. With these positions, Peltz, of course, carries bias. However, the guy seems to know what he is doing within the food sector.
While Pepsi has worked especially hard over the last few years to couple its portfolio of drinks and snacks together, Peltz believes splitting up these two business segments would be the most rewarding path for shareholders. Peltz believes Pepsi should offer between $35-$38 per share for Mondelez to better establish its foothold within the snacks industry. Today, he believes the company has two options to unlock shareholder value.
The first: split up the newly formed company by business segment, food and drinks. Peltz believes by splitting up, the company's great shareholder value would be realized, thus sending shares higher by roughly 100%. The second: just split up Pepsi the way it is today without the acquisition of Mondelez. Management has been strongly opposed to these ideas, yet I feel management will have to give these ideas consideration, as increasing pressure from a number of other powerful shareholders is starting to show.
Going forward, Mondelez and Pepsi seem like reasonable buys for the longer-term investor. While the current proposal would give shareholders of Mondelez a 25% return, I feel other companies may be targeting Mondelez's strong portfolio of brands, leaving potential for a higher-priced proposal. With a portfolio of iconic brands including Nabisco, Oreo, and Cadbury, the company has established itself as a major player within the food space. Below, I created a chart showing the breakdown of Mondelez's sales:
If a company like Coca-Cola (NYSE: KO) was to get involved with the deal, things could get very interesting very quickly. While Coca-Cola has established itself as the beverages leader, the soft drink category continues to struggle. Through an acquisition of Mondelez, the company would instantly become a major player within the food space with leading market positions in candy, chocolate, and snacks.
At the moment, however, I would not enter a long position in Coca-Cola due to its valuation. Growth is dismal at 4%, yet the company trades at a tough-to-swallow 20 times earnings, far above that of the S&P. Should the company make a bid for Mondelez, I would buy the stock, as the company has the infrastructure and management in place to leverage Mondelez's products even further into emerging markets.
The acquisition of Mondelez by either Pepsi or Coca-Cola would be beneficial to both companies over the longer term. For Pepsi, the deal would foster the opportunity to unlock shareholder value by splitting the company's food and drink business segments. For Coca-Cola, the deal would give the company instant access to a major growth market, the snack industry. I think both companies want Mondelez's array of brands to supplement slowing growth within their respective beverages category.
I would buy Mondelez because the potential for acquisition remains high. However, even if a deal doesn't happen, Mondelez still stands to benefit from rising incomes within developing markets abroad. I would recommend investors take Pepsi over Coca-Cola at this time. Pepsi trades at a slightly better valuation, with double the estimated growth of Coca-Cola. Moreover, Pepsi has the potential to spin off its food segment, even without the acquisition, something that would be truly beneficial for shareholders as the higher-growth food segment could generate a higher valuation by itself.