CFEA 2124:

BASIC MANAGERIAL FINANCE

Semester 1 Session 2015/2016
CASE STUDY 14:
COKE VERSUS PEPSI, 2001

Prepared for

: Dr. Shahrin Saaid bin Shaharuddin

Date of submission : 8th December 2015

Name

Matrix Num

Farhana Athirah binti Azly

CEA140033

Noor Atiqah binti Badrul Shisham

CEA140093

Nur Alya binti Mohamad Yusof

CEA140097

Nurul Atikah binti Mat Zali

CEA140107

CONTENT

NUM
1.
Introduction
(i)

2.
3.

PAGES

Company Background

The Coca-Cola Company

PepsiCo, Inc

(ii)
Industry Overview and Competitive Events
Objective
Financial Analysis

4.
5.
6.

ITEM

Economic Added Value(EVA)

Weighted Average Cost of Capital(WACC)

Financial Comparison
Conclusion
Recommendation

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56

78
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COMPANY BACKGROUND: THE COCA-COLA COMPANY

In 2000, the Coca-Cola Company was the largest manufacturer,

distributer and marketer of soft-drink concentrates and syrups in the world. It
also

marketed

and

distributed

variety

of

noncarbonated-beverage

products, including Minute Maid orange juice and Dasani bottled water.

From 1993 to 1998, the Coca-Cola Company had consistently garnered

the first or second spot in Fortunes annual ranking of the top wealth
creators. One of the main reasons for this was the companys strategy of
spinning off its bottling operations to avoid consolidation on its balance
sheet.

However, the company had run into difficulties at certain point in its
growth. Business mistakes by Doug Ivester, CEO from 1997 to 1999
aggravated the situation. During Ivesters approximately two-year term, net
income fell by 41 percent. The companys board of directors eased Ivester
out in December 2000.

Douglas Daft, head of Coca-Colas Middle and Far East and Africa
groups, was chosen to succeed Ivester. Daft and his executives worked hard
to bring back the glory days of the Coca-Cola Company by making few
changes to the company. Some analysts were optimistic that the change in
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management would return the Coca-Cola Company to the pre-1998 profit

margins. While other analysts were less enthusiastic as PepsiCos making its
rapid movement, the Coca-Cola Company need to get back on its feet as
quickly as it could.

COMPANY BACKGROUND: PEPSICO, INC.

During 2000, PepsiCo, Inc. was a company involved in the snack food,
soft drink and noncarbonated beverage businesses. The company sold and
distributed salty and sweet snacks under the Frito-Lay trademark and
manufactured concentrates of Pepsi, Mountain Dew and other brands to sell
to franchised bottlers. The company also produced and distributed juices and
other noncarbonated beverages.

Positioning PepsiCo as a focused snack-and-beverage company in 2000

was due mostly to the efforts of Roger Enrico, CEO from 1996 to 2000.
During Enricos term, PepsiCos return on equity almost doubled from 17
percent in 1996 to 30 percent in 2000. On Wall Street, analysts were upbeat
about PepsiCos prospects.

INDUSTRY OVERVIEW AND COMPETITIVE EVENTS

In

2000,

the

beverage

industries

transformation;

the

noncarbonated

drinks

was

undergoing

segment,

although

rapid
still

representing only a small fraction of the beverage market, had grown by 62

percent in volume over the last five years, while soft-drink volume growth
had been sluggish.

Pepsi had launched aggressive and exciting marketing campaigns that

helped boost volume and visibility. In addition, Pepsi also launched the
campaign to entice shoppers to pick up a Pepsi when they bought chips,
which is the Pepsi drinks are located next to Frito-Lay chips on store shelves.
In response to the success of the Pepsi campaigns, Coca-Cola resorted to a
number of tactics, such as veering away from its traditional feel-good ads
and launching trendier ones. Unfortunately, the new ads were highly
unpopular and elicited negative reactions from customers. Coca-Cola pulled
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the ads and replaced them with the Life Tastes Good series, which marked
a return to Cokes traditional feel-good themes, while being trendy at the
same time.

OBJECTIVE

1. To compare which companies between Coca-Cola Company and

PepsiCo, Inc to invest in.

FINANCIAL ANALYSIS

ECONOMIC VALUE ADDED (EVA)

Economic value-added (EVA) or also referred as economic profit analysis

is an indicator of performance measurement system in a company. EVA is
based on the residual income and determine by calculating the difference
between return on invested capital and weighted average cost of capital and
multiply it by the companys invested capital.

The formula for computing EVA is as follows:

EVA = (Return on invested capital Weighted average cost of capital) X
Invested capital

In a sense, EVA is the net present value generated from capital

budgeting of a company. The concept behind EVA is to measure financial
performance based on the value added during the period to create
shareholders wealth. EVA is a way of measuring an operations real
profitability and also build investors expectation on estimated the growth of
the business. It is better than conventional ways because it takes into
account the total cost of the operating capital.

WEIGHTED AVERAGECOST OF CAPITAL (WACC)

Weighted average cost of capital (WACC) is cost of debt and cost of

common equity. Cost of capital used by the company is obtained from
weighted average of these two components. By calculating WACC, we can
see the firms equity value, debt value and hence firm value needs to be
derived. A firm's WACC is the overall required return of the company. It is
considered the appropriate discount rate to use for cash flows with risk that
is related to that of the firm. A firms WACC is formulated using the formula:

The WACC of a firm increase as if the beta and rate of return on equity
increases, this is a sign of a decrease in valuation and a higher risk.
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When considering a feasible project, WACC is used to discount the cash

flows to get the NPV of the project. For a project to be feasible, it must
generate a return higher than the cost of raising debt and the cost of raising
equity. By computing WACC of an investment tool, the firm can have an idea
of the minimum rate of return are required to remain economical in the
future. Thus, WACC is an important instrument in making sound financial
decision at the corporate level.

From the description of WACC, it can be assumed that WACC is

dependent on the firms capital structure and the firm riskiness of market
valuation as reflected in the sources of the cost of capital, this is assuming
that the corporate tax rate is remain constant. It is within the right of the
firms decision makers to change the percentage of debt to equity ratio of
the firm. Thus, changing the firms capital structure can decrease WACC. In
general, debt is cheaper than equity but simultaneously, the higher the debt
means higher riskiness and could lead to higher cost of equity, Kd and cost of
debt, Ke.

FINANCIAL COMPARISON

Exhibit 1 shows that from the year 1994 to 2000, Coca-Cola has a
relatively stable EVA as compared to Pepsi Co. regardless of the fact that
Coca-Colas EVA is declining from year to year. On the other hand, Pepsi Co.
has gained negative EVA in the past but has been steadily growing and
surpassed Coca-Colas EVA in 2000.

The trend in Pepsi Co.s EVA was the direct impact of its CEO, Rogers
Enricos decision to sell off KFC, Taco Bell and Pizza Hut in 1997 as part of a
move to revamp the company and focus more on snack and beverage.
Business mistakes of its CEO, Doug Ivester, largely contributed Coca-Colas
low EVA more than the global economic environment during that period.
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During 1994 to 1998, both Coca-Cola and Pepsi have similar WACC values
but Coca-Cola had lesser capital investment with higher ROICs and EVAs than
Pepsi. By 2000, Pepsi Co. now has higher EVA which makes it stand almost
on the same level as Coca-Cola. Based on these observations, it can be
assumed that Return on Investment Capital (ROIC) is a prime deciding factor
for EVA analysis.

It is important to invest capital at a higher rate than the capital is

obtained at. In theory, as long as there are enough projects that produce
ROIC>WACC and enough capital supplied, EVA can grow indefinitely.

Based on Exhibit 8, it shows that Coca-Cola share price is much higher

than PepsiCo. There was almost a perfect correlation between the EVA and
their stock price.Goal of the firm is to maximize the shareholders wealth.
Therefore, it is better to invest in Coca-Colas stock over Pepsis stock
because it will create more EVA and hence add more value for the
shareholders over this period.

CONCLUSION

In conclusion, based on the Economic Value Added (EVA) analysis,

Coca-Cola is a better financial option in the foreseeable future as it would
create more value to the shareholders. On the other hand,

it should be

noted that attempt of both Coca-Cola and Pepsi Co.s to enter other market
segments is likely to be highly profitable. This is due to the changes in
customer orientation to a non-carbonated drink.

To have a more exact and clear view of the situation, we looked at the
EVA figures for both Coca-Cola and Pepsi Co from the year 1994 to 2000
together. It can be seen that in the long run, Coca-Cola can survive more
efficiently than Pepsi Co. since it has faced near bankruptcy cases and still
can be recovered from them whereas Pepsi Co. has not.

Besides, there was almost a perfect relation between Coca-Colas EVA

and stock price. EVA does a better job in telling the investors about the
things that has become their main interest which is the net cash return on
their capital. Therefore, it can be conclude that there will be a better
opportunity to invest in Coca-Colas stock over Pepsis stock as it will create
more Economic Value Added and hence create more value for the
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shareholders

over

the

period.

RECOMMENDATION

Since Coca-Cola business is highly related to their cultural ties, it is

important for them to stay true with what they have been doing for years.
While on the other hand, for PepsiCo. Inc they may need to find ways to
make their brand more recognizable. For instance, Pepsi Co. Inc has to work
hard to relate their business with all people culturally, rather than just doing
it through the campaigns. Besides, for both of the companies, it is suggested
for them to also have a focus on their advertising and promotion in order to
differentiate themselves from their competitor besides changing the image
and perception of people towards cola into a fit healthy living trend.

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