Coca-Cola Consolidated: Why Did The Soda Pop?

What’s going on with Coca-Cola Consolidated (COKE), the bottling company formerly known as Coca-Cola Bottling Company Consolidated? I have asked myself this question more than a couple times the past few months as its stock has bubbled higher and higher, and then higher some more. At this point the company’s stock chart is starting to look quite extreme (as seen below). Having written two extensive analyses of the company for Seeking Alpha in 2015 and 2016, advocating the stock for purchase in anticipation of the company’s acquisition of additional bottling territories from The Coca-Cola Company (KO), I consider myself reasonably well acquainted with the company and its operations. Yet I struggle to find a rational explanation for the monster move in its stock.

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Coca-Cola Consolidated’s stock chart: screenshot from yahoo! Finance.

This was a $130 stock back in June 2018, roughly eleven months ago, which makes for a 200% return within a year. That seems rather extreme for a North American bottling operation locked into the Coke system. Bottling soda pop in a mature market like the United States is not usually associated with high growth or high returns. So let’s take a look at the company’s income statement for fiscal year 2018 (below). Sales increased by 7.9% to $4.6 billion while income from operations dropped by 43% to $50 million. Close to 8% growth in sales is quite attractive, but close to half is related to territory expansions while the other half was fueled by organic sources such as higher prices.

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Part of the company’s income statement for 2018 is included above: growth from the territory transactions that started in 2014 and continued during 2015-2017 has decelerated to high single digits, while margins remain under pressure.

As expected, the deceleration of sales growth continued in Q1 of fy2019, with growth of 3.6% on higher case volume of 0.2%. While margins improved somewhat the company’s operating margin came in at the measly low level of 1.8%, which is both historically and comparatively poor for a bottling company. In other words, the company’s operating performance has been reasonable but nowhere near good enough to support the current market valuation.

Market capitalization sits around $3.6bn at current prices, with another $1.1bn in net debt on the balance sheet, which makes for an EV of $4.7bn. That valuation is supported by $58mln in operating earnings, which I will admit have probably been held back by the company’s efforts to integrate the TCCC territories into its operations. I expect the company should be able to achieve an operating margin around 4-5% within a couple of years, which would bring operating profits back to $190-$230 million.

But even that may be a rather optimistic scenario. After all, the company has never disclosed how much margin is lost through the company’s obligation to pay sub-bottling fees to The Coca-Cola Company for the territories acquired in 2014-2017. It is therefore quite possible that the bottling margins on those territories are substantially lower than those it has achieved historically in its legacy operations. Either way, even if the company manages to achieve a 4-5% operating margin the current valuation implies a multiple of 20-24x operating earnings before taking its substantial debt into account. That is not a realistic valuation at all. So what is driving the current surge in the Coke’s stock?

I have offered the following theory on Twitter before but the continuation of this remarkable run has strenghtened my conviction. On January 1st 2019 the company legally changed its name to Coca-Cola Consolidated, from its previous name Coca-Cola Bottling Co. Consolidated. The company already traded under the ticker COKE but now also carries a name that aligns it even more closely to The Coca-Cola Company. In my opinion, instead of simplifying ‘our legal name and (..) reflect how we are already commonly known in the marketplace’, the name change has made things more confusing. Given that the remarkable rise in the company’s share price coincides with the name change on January 1st, my theory is that some people are actually buying the wrong stock. They’re looking for The Coca-Cola Company, which trades under the ticker KO, but end up buying Coca-Cola Consolidated, which trades under COKE. Some have called this idea far fetched but it is remarkable how often people mistakenly use the ticker COKE on Twitter or Stocktwits when they’re talking about the Coca-Cola Company. Most people barely seem to understand the difference between both companies. That may be understandable for the average consumer, but it’s a cardinal mistake for an investor. Below is an example of an investor confessing to buying the wrong stock.

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Message found on Stocktwits from an investor confessing to buying the wrong stock.

Given the low free float of Coca-Cola Consolidated, which is closely held by certain members of the Harrison family, even a limited number of people making this mistake can distort the market dynamic in its stock and prevent rational prices from forming. Given the possibility of having a fair amount of irrational buyers and the low free float, I would advise against shorting this stock, even if it is in my opinion overvalued by roughly 100%. More and more money will have to flow into the stock to keep this rally going, but the question is if you can hold a short position when the market is this irrational in such an illiquid security.

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