Cott Corporation
/ (COT-NYSE) / $15.21Note to Readers: All new or revised material since the last report is highlighted.
Reason for Report: Coverage dropped by 1 broker Previous Edition: May 03, 2007
Recent Events – Summary
April 25, 2007: COT announced its 1Q07 earnings. On the same date, COT announced that the Board has adopted a shareholders’ rights plan following the recent announcement by Cadbury Schweppes plc regarding the separation of its confectionery and Americas Beverage business.
March 15, 2007: COT announced the appointment of David T. Gibbons to its Board of Directors effective immediately.
March 12, 2007: COT announced the appointment of Juan R. Figuereo as its new Chief Financial Officer.
Overview
Analysts have identified the following issues as critical to an evaluation of the investment merits of COT:
Key Positive Arguments / Key Negative ArgumentsNew product innovation: COT is trying to counter CSD (carbonated soft drinks) category weakness by focusing on new products in the higher-growth diet and energy drink segments. / Increasing costs: U.S. manufacturing constraints and increases in packaging and raw materials costs have hurt the gross margin during periods of strong seasonal demand.
Supplier to Wal-Mart: Wal-Mart’s expansion into superstores is driving COT’s growth as COT supplies all Wal-Mart’s private label carbonated soft drinks and water in the U.S. Analysts do not see any alternative supplier that could meet Wal-Mart’s needs. / Dependence on Wal-Mart: COT is dependent on Wal-Mart and Safeway, which together account for about 50% of its sales. Wal-Mart could try to push back on price, which would negatively impact COT’s high returns.
International Penetration: COT is doing well in the markets of the U.K and Mexico. / Lack of brand equity: COT lacks brand equity.
Price competition: Improvement in profit margin could be difficult to achieve given the raw materials price increases and occasional price competition.
Increase in competition: Coke’s and Pepsi’s aggressive promotions and their introduction of new products have increased competition for COT.
Weak CSD (carbonated soft drinks) market: COT suffers from category weakness in the CSD market.
Based in Toronto, Canada, Cott Corporation (COT) supplies branded soft drinks to retailers across the United States, Canada, the United Kingdom, Europe, Mexico, and other countries. In addition to carbonated soft drinks, its product lines include flavored beverages, juices and juice-based products, bottled water, energy drinks, and iced tea. It supplies soft drinks to regional and national grocery, mass-merchandise, drugstore, and wholesale and convenience store chains through third-party distributors or directly through retail locations. Additional information on COT is available at the company’s website: www.cott.com. Cott’s fiscal year ends in December 31.
Recent Events - Details
On April 25, 2007, COT announced its 1Q07 earnings. Highlights are as follows:
· Earnings per share were $0.07, compared to a loss of $0.03 in 1Q06.
· Gross margin was 13.4%, flat y/y.
· The international business delivered another strong quarter with 31.8% volume growth and 25.6% revenue growth compared to 1Q06.
On April 25, 2007, COT announced that the Board has adopted a shareholders’ rights plan following the recent announcement by Cadbury Schweppes plc regarding the separation of its confectionery and Americas Beverage business to provide the Board with time to review unsolicited takeover bids and protect shareholders from opportunistic bids and unfair takeover tactics. The rights plan entitles shareholders to acquire shares at a discount, and is triggered when a party acquires or announces its intention to acquire 20% of the company. While some interested parties have approached the company about possible industry consolidation, no takeover bids have yet been tabled. The Board of Directors is supportive of exploratory talks with interested parties but remains committed to its strategic direction and goal for organic growth
On March 15, 2007, COT announced the appointment of David T. Gibbons to its Board of Directors effective immediately. Gibbons is currently the chairman of the Perrigo Company, a publicly traded manufacturer of retailer brand over-the-counter pharmaceutical and nutritional products.
On March 12, 2007, COT announced the appointment of Juan R. Figuereo as its new Chief Financial Officer. Before joining COT Figuereo worked with Wal-Mart International, where he has held the position of Vice President, M&A, since 2003.
Revenue
For 1Q07, the company reported total revenue of $400.2M (in line with Zacks Digest average), up 1.5% from $394.2M in 1Q06. However, excluding the impact of foreign exchange, revenue was flat y/y. According to one analyst (J.P Morgan), the overall sales growth was driven by strong international organic growth and offset by weakness in North America due to difficult CSD category trends, COT’s market share losses given price increases, and SKU reductions.
COT’s volume at 1Q07 end was 317.8 million eight-ounce equivalent cases, up 8% y/y. The increase was driven by a 31.8% y/y increase in the international business, the majority of which was Royal Crown concentrate volume growth, partially offset by a 4% decline in finished case volume in the face of stiff price growth coupled with unfavorable CSD trends in North America and continued decline from SKUs rationalization.
Segment Breakdown of Revenue
North America (NA) Sales (74% of 1Q07 sales): NA sales trended down 4.9% y/y to $295.6M, driven by the soft industry trends in CSDs, COT’s market share losses with recent price increases, and SKU rationalization. NA volume was down 9.2% y/y, although COT stated that it gained market share in the latest 4-week period in food, drug, and mass, including Wal-Mart, which caused volumes to improve sequentially.
One firm (Merrill) believes the introduction of a new sports drink product GL7 among others could boost volumes later in 2007, though it expects such contributions to be small. Softness in the CSD category on the back of accelerated pricing as well as SKU rationalization is likely to pressure North American revenue in 2007.
International Sales (24% of 2006 sales): International sales grew 25.6% y/y to $104.6M (up around 16% y/y excluding currency) driven by strong organic growth in the U.K., Europe, Mexico and new account wins, particularly in non-carbonated products. International volume increased 31.8% y/y driven by Royal Cola concentrate growth.
Outlook
Management expects annual organic volume growth of 2%–4% and annual organic revenue growth of 3%–5% in the long term. For FY07 it expects volume and revenue growth to be on the lower end of its long-term targets.
One firm (B. of America) expects 2.5% y/y net sales growth (vs. its previous estimate of 3.3%) in 2Q07. For North America, it has forecast volume growth of 6.0% with 5.4% price/mix, as volumes are impacted by SKU rationalizations, a weak CSD environment, and price increases to cover cost inflation. Internationally, it expects 13.0% volume growth with 2.0% price/mix, as the company benefits from its expansion into new channels and business with new partners.
Provided below is a summary of COT’s revenue as compiled by the Zacks Digest:
Total Revenue ($M) / 1Q06A / 1Q07A / 2Q07E / 3Q07E / 4Q07E / 2007E / 2008E / 2009EUS / $310.0 / $295.7 / $369.0 / $350.5 / $286.9 / $1,302.1 / $1,347.9 / $1,363.0
UK & International / $83.3 / $104.7 / $137.2 / $139.7 / $126.4 / $507.7 / $544.8 / $579.0
Other / $1.4
Total Revenue / $394.2 / $400.2 / $511.8 / $489.9 / $417.7 / $1,823.4 / $1,909.8 / $2,010.9
Digest High / $394.2 / $400.2 / $530.0 / $504.0 / $427.0 / $1,862.0 / $1,981.9 / $2,097.8
Digest Low / $394.2 / $400.0 / $501.6 / $476.9 / $404.6 / $1,783.4 / $1,829.9 / $1,942.0
Digest Y/Y growth / 1.5% / 2.0% / 3.0% / 4.4% / 2.9% / 4.7% / 5.3%
Digest Seq. growth / 0.0% / 27.9% / -4.3% / -14.7%
For FY07, revenue estimates range from $1,783.4M to $1,862.0M with an average of $1,823.4M. For FY08, revenue estimates range from $1,829.9M to $1,981.9M with an average of $1,909.8M. For FY09, revenue estimates range from $1,942.0M to $2,097.8M with an average of $2,010.9M.
Margins
1Q07 gross margin was 13.4%, flat y/y. Cost cutting initiatives, improved pricing, SKU rationalization, and strong growth of high-margin concentrated sales, offset commodity cost increases of $16 million y/y. As per the Zacks Digest average, 1Q07 gross margin was 14.7%, compared to 13.4% in 1Q06.
In 1Q07, operating profit more than doubled to $15.5 million from $7.7 million in 1Q06, driven by gains in the US, and consolidated profit margin was 3.9% in 1Q07, an expansion of 0.7% y/y. As per the Zacks Digest average, operating margin in 1Q07 was 4%, compared to 3.2% in 1Q06.
Selling, general and administrative (SG&A) expense declined 5.5% y/y to $37.7 million from $39.9 million in 1Q06, despite the increased investment in sales and marketing. The lower-than-expected SG&A expense was driven by greater-than-expected cost cutting. The shut down of underperforming plants in FY06 resulted in a decrease in depreciation expense of $1.4 million y/y. Restructuring charges, asset impairments and other charges were $0.3 million on a pre-tax basis in 1Q07. This compares to pre-tax charges of $5.0 million recorded in 1Q06 for the closure of the Ohio plant and costs associated with the U.K. Competition Commission's review of COT's acquisition of Macaw Soft Drinks.
Segment Operating Profit
North America: In 1Q07, the segment’s operating profit was $10.9 million, up 9% y/y, and operating margin was 3.7%.
One analyst (Merrill) believes that the continued elimination of unprofitable SKUs should benefit margins, though it may continue to hurt the topline in the near term.
International: In 1Q07, the segment’s profit was $4.9 million, up 4.3% y/y, and margin was 4.7%. COT’s international operating profit has now increased for 7 consecutive quarters on a year over year basis and margins have increased 3 of the past 4 quarters.
Outlook
Management expects gross margin improvement of 50–100 bps y/y for FY07, exceeding 16% in 2009, and annual operating income growth of 12%–15% for FY07. COT feels that most likely aluminum costs will increase in FY07. Analysts expect profit growth to be at the upper end of the company's long-term targets.
One analyst (B. of America) forecasts SD&A expense would decrease 4.8% y/y in FY07 as cost savings initiatives begin to benefit the profit and loss.
Provided below is a summary of COT’s margin as compiled by the Zacks Digest:
Margins / 1Q06A / 1Q07A / 2Q07E / 3Q07E / 4Q07E / 2007E / 2008E / 2009EGross / 13.4% / 14.7% / 14.8% / 14.1% / 13.6% / 14.6% / 15.2% / 15.0%
Operating / 3.2% / 4.0% / 6.2% / 5.2% / 2.8% / 4.7% / 5.4% / 6.3%
Pretax / 0.9% / 1.8% / 4.6% / 3.4% / 0.6% / 2.9% / 3.8% / 4.7%
Net / 0.6% / 1.3% / 3.0% / 2.1% / 0.4% / 1.8% / 2.3% / 3.0%
Earnings per Share
In 1Q07, net income and diluted EPS were $4.8 million and $0.07 (in line with the Zacks Digest average), respectively, including $0.3 million in restructuring costs and a $0.8 million non-cash tax charge related to FASB 48, compared to a loss of $2.1 million and $0.03 per diluted share, respectively, in 1Q06.
Outlook
Most analysts have increased their FY07 EPS estimates based on 1Q07 results. One analyst (CIBC) has increased the FY08 EPS estimate from $0.79 to $0.84, based on the decrease in SG&A expense as a percentage of revenue.
EPS / 1Q06A / 1Q07A / 2Q07E / 3Q07E / 4Q07E / 2007E / 2008E / 2009EZacks Consensus / $0.19 / $0.17 / $0.47 / $0.66
Digest High / $0.03 / $0.07 / $0.25 / $0.25 / $0.13 / $0.54 / $0.84 / $1.09
Digest Low / $0.03 / $0.07 / $0.11 / $0.13 / $0.00 / $0.42 / $0.54 / $0.70
Digest Avg. / $0.03 / $0.07 / $0.19 / $0.17 / $0.04 / $0.47 / $0.65 / $0.84
Digest Y/Y growth / 133.9% / 11.4% / -0.8% / 909.2% / 21.1% / 39.9% / 29.0%
Digest sequential growth / 1550.8% / 177.5% / -14.5% / -74.2%
For FY07, EPS estimates range from $0.42 to $0.54 with an average of $0.47. For FY08, estimates range from $0.54 to $0.84 with an average of $0.65. For FY09, estimates range from $0.70 to $1.09 with an average of $0.84.
Target Price/Valuation
Of 13 analysts covering COT, 3 gave positive ratings, 7 gave neutral ratings, and 3 gave negative ratings.
Target prices provided by analysts range from $8.00 (Longbow) to $20.00 (UnionBankSwitz.). The Digest average target price is $15.41 (no change from the previous target price). The analyst with the highest target price used 7.8x EBITDA of 2008 and DCF analysis, whereas the analyst with the lowest target price used 18x 2007 EPS estimate to compute the target price. Analysts have generally used P/E multiples, EPS, EV/EBITDA, and DCF analysis to compute the target prices.
Rating DistributionPositive / 23%
Neutral / 54%
Negative / 23%
Digest High / $20.00
Digest Low / $8.00
Avg. Target Price / $15.41
No. of Analysts with Target Price/Total / 11/13
Capital Structure/Solvency/Cash Flow/Governance/Other