People will still be drinking soda and coffee in 100 years. In fact, I am having a Diet Dr Pepper while I write this. I had a perfectly brewed coffee from a Keurig pod this morning.
Overview of Keurig Dr Pepper
Keurig Dr Pepper Inc. (KDP, Financial) is the result of a merger between Keurig Green Mountain and Dr Pepper Snapple Group in 2018. Keurig Green Mountain was originally founded in 1981 and is known for its single-serve coffee pods (K-Cups) and the machines that brew them, a major innovation that is still going strong today.
Dr Pepper Snapple Group traces its roots back to the 18th century. Dr Pepper was created in 1885 and first sold in 1886, making it one of the earliest carbonated soft drinks. Coca-Cola Co. (KO, Financial) was invented in 1886 and PepsiCo Inc. (PEP, Financial) followed in 1893. In fact, Dr Pepper is the oldest major soft drink brand created in America still in existence today without any major reformulation. And, it will likely be around for another 100-plus years.
Product mix
Keurig Dr Pepper derives a significant portion of revenue from its portfolio of owned and licensed beverage brands sold across North America, as well as from its popular Keurig coffee systems. Here's a breakdown.
Along with Green Mountain Coffee, Keurig is the leading specialty coffee brand selling bags, single-serve coffee pods and brewers, generating between 25% and 30% of total company revenue. In the company's 2022 annual report, it estimated there are approximately 36 million Keurig brewers in homes and businesses across the United States. The company sells over 13 billion of these pods annually, a number that could continue to grow. The price of the pods is also likely to rise over time to meet inflationary demands, which means $1 or $2 per pod could be a reality in the next 10 to 20 years, if not sooner.
According to Statista, approximately 626 million 192-ounce cases of Dr Pepper were sold in the United States in 2021. This translates to over 12 billion individual servings of Dr Pepper. Here in DC, the price of a 12-pack is now $10 when it is not on sale. I think that could easily go to $20 and people would still buy them. Dr Pepper accounts for between 30% and 35% of total revenue.
Other brands include Snapple, the ready-to-drink tea and juice brand; Canada Dry, the seltzer water and soda brand; 7UP, the citrus-flavored Sprite competitor; A&M Root beer; CORE Hydration, the bottled water with added vitamins and minerals and Bai, water beverages with antioxidants.
The majority of revenue comes from North America with packaged beverages accounting for the bulk of sales with 63% coming from soft drinks, juices, waters, ready-to-drink teas, mixers and others. The single-serve brew systems from Keurig account for 12% of sales and the K-Cup pods make up 19% of the company's sales. Another 6% of the company's revenue comes from Latin America, but while K-pods and brewers are sold in the U.K., Ireland and the Netherlands as well as in some select Asian countries, such as Japan and South Korea, these territories account for such a small amount of sales that it does not really register for the company. That is a huge opportunity for future growth, especially considering Coca-Cola gets close to 40% of its revenue from Europe, the Middle East, Africa and Asia.
Competitive advantages
Keurig Dr Pepper possesses several competitive advantages that have positioned it as a leading beverage company in North America. It has a wide range of products spanning across various beverage categories, from hot drinks like coffee to cold beverages like sodas and teas. This diversity allows the company to cater to a broad spectrum of consumer preferences and reduces its reliance on any single product category.
Brands like Dr Pepper, 7UP, Snapple and Keurig are household names. This strong brand recognition translates to customer loyalty and can command pricing consistent with PepsiCo and Coca-Cola.
The Keurig single-serve system revolutionized the at-home coffee market. This innovation not only provided consumers with a convenient way to brew coffee, but also created a recurring revenue stream through the sale of K-Cup pods. The razor and blades model is brilliant. The company has also formed partnerships with various companies to expand its product offerings, collaborating with major coffee brands to offer their coffee in K-Cup form, further entrenching them in the minds of consumers.
Its products are available in a wide variety of retail outlets, from supermarkets to convenience stores to online retailers. This extensive distribution ensures that the products are easily accessible to consumers everywhere, giving it economies of scale as well. That means it has a lot of pricing power with suppliers, can optimize its manufacturing processes and spread its marketing costs over a large volume of sales.
These competitive advantages should allow Keurig Dr Pepper to maintain a durable leadership position in a highly competitive beverage market.
Thoughts on valuation
The question is whether you want to pay $47 billion, or 17 times forward earnings and 3.3 times current revenue for the company.
The top line has grown from $4.7 billion to $14.5 billion over the last decade. Operating income of $3 billion easily covers the debt obligations, including $500 million in interest expense payments annually. The majority of its long-term debt was assumed through the merger in 2018 and the company has paid down $4 billion worth. While that number currently stands at $10 billion, Keurig's strong cash from operations and growth potential should offset any worries over the debt burden.
On the bottom line, the net margin is a steady 11%. It generates over $1.9 billion in cash flow from operations and is expected to continue growing revenue at roughly 5% a year. That would mean by the end of the decade surpassing $20 billion in sales. At the current 11% net profit margin, that is $2.2 billion on the bottom line.
Since the merger in 2018, the retained earnings have grown from $1.5 billion to just shy of $4 billion, adding about $4 in market value per $1 in retained earnings. Keurig adds around 40% of annual income to retained earnings, which means over the next seven years it should add more than $5 billion to its retained earnings, or another $20 billion in market value.
Is it a screaming bargain at this price? No. However, I would be shocked if investors lost money over the long term owning it. And if the company can crack the overseas market, the financial picture would dramatically improve.
