LONDON (Reuters Breakingviews) - Coca-Cola is paying a highly caffeinated price for a global coffee hit. The American soda giant has joined the battle to satisfy consumers’ thirst for java by paying $5.1 billion for Costa, the world’s second-largest chain of cafes. The deal requires Coke to order up new markets for hot drinks. Investors in seller Whitbread are the big winners.
The deal announced on Friday morning is the third big coffee transaction so far this year. In May JAB Holding Company, owner of Krispy Kreme doughnuts, paid $2 billion for Britain’s Pret A Manger, weeks after Nestlé shelled out $7.2 billion for the right to sell Starbucks-branded products. Consumer giants are eager for a fix of a business that Euromonitor forecasts will grow at a steady 3 percent annually over the next four years.
Coke’s existing coffee business, which includes the Georgia brand in Japan, is small, and running Costa’s nearly-4000 cafes will be a departure. Acquiring what the U.S. company calls a “scalable coffee platform” presumably means it will develop Costa-branded drinks which it can push through supermarkets and vending machines. It could also expand the chain’s network of self-service machines, though the Atlanta-based company has less experience of pouring out hot beverages.
Delivering a decent return for the $190 billion company’s shareholders will therefore be a grind. In the year to March 1, Costa generated an operating profit of 123 million pounds on revenue of about 1.3 billion pounds. To generate an acceptable after-tax return on its investment of close to 8 percent by 2020, Coke would need to boost Costa’s revenue growth to 20 percent a year – from 8 percent in the last two years – and double its operating margin, Breakingviews calculations show.
The real boost goes to activist investors Elliott Advisors and Sachem Head, which had pressured Whitbread boss Alison Brittain into spinning off the coffee business. Coke is paying 16.4 times Costa’s historical EBITDA, above the 15 times valuation investors award to larger rival Starbucks. Shareholders will get most of the cash, while Whitbread will invest some of what’s left in its chain of Premier Inn hotels. Coke will have to work hard to justify a shift away from sugary drinks. Whitbread shareholders, meanwhile, can enjoy their caffeine boost.
Reuters Breakingviews is the world's leading source of agenda-setting financial insight. As the Reuters brand for financial commentary, we dissect the big business and economic stories as they break around the world every day. A global team of about 30 correspondents in New York, London, Hong Kong and other major cities provides expert analysis in real time.
Sign up for a free trial of our full service at https://www.breakingviews.com/trial and follow us on Twitter @Breakingviews and at www.breakingviews.com. All opinions expressed are those of the authors.