Glenboden M & A Originations

What are Cott's best strategic options now ? (pt. 2)

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Origination Status proprietory origination, February 2014
Asset Cott Corporation (USA), largest domestic bottler of private label and A-brand soft drinks
Buyer options include Walmart
Seller public shareholders of Cott
Buyer Rationale back-integration to enhance pricing security in key categories
Seller Rationale realisation of shareholder value, sales and margins stability
NBs Credit Suisse recently appointed by Cott to evaluate strategic options for the group
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On the back of weak results in 9M 2013, Cott has appointed Credit Suisse to evaluate all strategic options that “would enhance shareholder value'. In part two we examine additional options, including private equity, but conclude that vertical integration would deliver the biggest bang for the group.

Private equity buy-out unlikely ...With the exception of central Europe perhaps, the private equity community has its cashier's window closed for private label soft drinks bottling businesses, at this time and arguably any time.

That's largely because private label and A-brand bottling are inherently low-margin businesses, given the low retail price-points of the former and the extra player in the value-chain of the latter. As Steve Kitching, MD of Cott UK, told us, 'you're lucky to get a 6% operating margin' in soft drinks bottling.

The results show the group’s EBITDA margin in 2013 to be only 9%, in spite of Cott being the biggest private label player in its markets (see profile).

On top of that, there's no pathway to significantly raise profitability through restructuring, for private equity buyers, because private label bottlers are almost by definition very lean operators; without strict cost management, they wouldn't be in business in the first place.

... retailer vertical integration for the biggest bang ...Back-integration into manufacturing is a growing story among multiple retailers, who see benefits in areas like supply chain optimisation, efficient capacity utilisation and food safety (significant now in the energy drinks segment).

In Europe, the Schwartz Group (owner of Lidl) is a proponent of vertical integration, having for example acquired a significant soft drinks supplier, MEG of Germany, in 2005. Meanwhile in the US, Kroger's own manufacturing network, which supplies 40% of that retailer’s total private label sales, includes the America's Beverage Co. and Springdale bottling operations.

Then who is the most likely merger partner for Cott, amongst multiple retailers ? Cott's largest customer by far is Walmart, which in 2012 accounted for over 30% of total sales; no other customer accounts for above 10% of the group's sales revenue. So, Walmart is an obvious candidate.

... but with a modest valuationFor a number of reasons, Glenboden believes that the value of Cott in a merger with a retailer would only be in the single-digit EBITDA multiple range, in spite of the group's large scale (see valuation).

Cott's growth range looks reasonable, despite its heavy sales weighting in developed markets (see profile). However, much of that was generated by the acquisition of Cliffstar in 2010. In addition, the group's profitability has been up-and-down in recent years, which inevitably depresses value.

Then there's the fact that a vertical-integration transaction with a retailer would not deliver the cost synergies that a consolidation play with another producer would bring. Such a move also presents the risk of loss of business with branded soft drinks suppliers; an additional factor for a lower valuation.

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THIS LEAD'S VALUATION
Size (€ mln) 1.100
Sector soft beverages
Asset Quality north America no.1 private label
Seller large plc
Buyer large plc
P/S 0,7
P/Ebitda 8,0
Type enterprise value estimate
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