Why Coca-Cola Wants to Buy Costa Coffee? Beware Starbucks and PepsiCo!

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Coca-Cola has agreed to buy U.K.-based second largest coffee chain, Costa from Whitbread Plc for an enterprise value of 5.1 billion dollars on 31st August, 2017.

BACKGROUND OF THE COMPANIES

Costa Coffee is a British multinational coffee house founded by the Costa family in 1971. It has its headquarters at Dunstable, Bedfordshire. It is a wholly owned subsidiary of Whitbread. Costa Coffee moved its own roastery Lambeth to Basildon, Essex, in May 2017 with an investment of £38 million, increasing the roasting capacity from 11,000 to 45,000 tons of coffee beans per year. It almost has more than 4000 stores worldwide. As at 1 March 2018, the gross assets of Costa were £547 million.

The Coca-Cola Company is a total beverage company, offering over 500 brands in more than 200 countries and territories. In the year ended December 2017, Coca-Cola generated revenue of $35.4 billion and operating income of $9.7 billion. Coca-Cola is listed on the New York Stock Exchange, with a market capitalisation of approximately $195 billion.

WHY COKE WANTS TO HAVE COSTA – RATIONALE BEHIND THE MERGER

Coca-Cola, the soft drink giant, wants to expand its business not only in the cold soft drinks sector but now hot beverages. The probable reason could be that with increasing health awareness amongst people, the sale of soft drinks like coke is reducing as it contains an excessive amount of sugar. This is why when Whitbread stated about the demerger of Costa, Coca-Cola had approached Costa for the merger.

KEY MECHANICS OF THE TRANSACTION

  1. The merger recognizes the strategic value of Costa’s brand strength, multi-channel presence and international growth potential;
  2. The Transaction represents an enterprise valuation multiple of 16.4x Costa’s FY18 EBITDA;
  3. The valuation is significantly higher than is currently reflected for Costa in Whitbread’s market value;
  4. The Transaction provides a substantial premium to the value that would be created by Costa as a separately listed entity through the previously announced demerger plan, given Coca-Cola’s leading global product development, distribution, marketing and vending platform;
  5. The Transaction accelerates the realization of value in cash with numberous retail stores of Costa;

IMPACT ON THE GLOBAL ECONOMY

The Coca-Cola and Costa merger is a win-win situation as both the companies are benefiting from the merger.

Costa is gaining international recognition and can operate worldwide. Costa Coffee does not have any outlet in US but is the second largest chain of coffee in the world. Soon, it is expected to compete with Starbucks and bridge the gap which they are currently facing. According to GlobalData, retail sales of hot drinks in China alone will hit US$34.2bn by 2022, creating exciting opportunities for expansion as a retail brand. The number of coffee shops in the UK has grown from 10,000 in 2007 to 24,000 today, with 31,000 outlets forecast by 2022.

On the other hand, Coca-Cola can diversify its operations not only restricting itself to the cold soft drink sector. It gives an advantage to the company to compete with Nestle and PepsiCo. It would eventually increase the company profits and hence cause a better EBITDA.

COMPETITIVE ANALYSIS

PepsiCo recently bought the fizzy drinks manufacturer SodaStream while the Swiss food giant Nestlé has made a deal of about 7.3 billion dollars to license Starbucks-packaged coffees and teas around the world. The UK could be nearing peak coffee, however, with the number of shops growing from 10,000 in 2007 to 24,000 today, according to analysts at Allegra World Coffee Portal. There are nearly twice as many Costa Coffee branches in the UK as there are Starbucks and almost four times the number of Caffè Neros.

Therefore, when the deal completes in the first half of next year Coke will own 4,000 Costa stores in 32 countries, with more than 2,400 of those in the UK, as well as more than 8,000 self-serve Express machines.