Coke, Pepsi and the new front in the cola wars

When most people think about rivalries in the carbonated beverage industry, they think of the "cola wars," the never-ending battle for market supremacy between Coca-Cola (KO) and PepsiCo (PEP) especially, as well as Dr Pepper Snapple (DPS) and a host of other smaller rivals.

However, that doesn't tell the whole story.

Indeed, although Coca-Cola has dominated the soda market for the two decades that Beverage Digest has tracked it, the soft-drink giant is struggling as per-capita consumption of soda has hit multidecade lows. Along with rival PepsiCo, Coca-Cola has become increasingly dependent on business outside of carbonated beverages. At times, the change hasn't been easy.

Coca-Cola CEO Muhtar Kent has even called 2015 a "transition year" and announced plans to lay off between 1,600 and 1,800 employees to cut costs.

"The beverage industry remains pressured by weak demand for carbonated soft drinks," wrote Joseph Agnese, an analyst with S&P Capital IQ, who has a "hold" rating on both stocks. "Non-carbonated beverage growth is experiencing better growth than carbonated products, with growth more in line with the snacks industry."

Coca-Cola posted better-than-expected results this week, thanks to cost cuts and price increases. Volumes of sparkling beverages, which includes soda, fell 1 percent in North America. Coca-Cola's results, though, were a hardly a cause for celebration.

Net income at the Atlanta-based company fell 55 percent in the most recent quarter to $770 million, or 17 cents per share, while revenue slumped 2 percent to $10.9 billion.

The picture was similar at PepsiCo, based in Purchase, N.Y., which issued results on Wednesday. Net income in the most recent quarter dropped 25 percent to $1.31 billion, or 87 cents per share, versus $1.74 billion, or $1.12 cents, a year earlier. Revenue declined 1 percent to $19.95 billion as beverage volume rose 2 percent.

Still, the soft-drink picture isn't entirely bleak.

Consumers are paying higher prices for soda, thanks to new types of packages such as 8-ounce cans versus the standard 12-ounce size, a trend that bolstered earnings at both Coke and Pepsi. Dr Pepper Snapple, which reports results next week, will benefit from the trend as well, according to Amit Sharma, an analyst with BMO Capital Markets. He rates Coca-Cola as a "market perform," PepsiCo as "outperform" and Dr Pepper Snapple as "underperform."

"Better pricing in terms of these configurations to smaller package helps you realize more price per ounce," Sharma said in an interview. "That same model has been successful in other markets."

Shares of Coca-Cola, have risen about 12 percent over the past year, underperforming both PepsiCo, up 25 percent, and the 15 percent increase in the S&P 500 index. Dr. Pepper Snapple Group has outflanked both rivals, surging more than 62 percent in part because it doesn't face any major issues with foreign currency fluctuations, with operations only in North America.

Wall Street is paying close attention to PepsiCo because it's more diversified than Coca-Cola, also owning the Frito-Lay snack business and the Quaker Foods division that makes oatmeal and cereals such as Cap'n Crunch. In Pepsi's latest quarter, volumes at Frito-Lay North America rose 2 percent, and net revenue jumped 3 percent. Net revenue dropped 2 percent at Quaker Foods North America, while volumes were unchanged.

Activist investor Nelson Peltz had urged PepsiCo to split off its snacks and beverage business. The billionaire, though, called off his fight after the company agreed to nominate a candidate of his choosing to the board.

Coca-Cola's lead in the soda market looks pretty secure, thanks to its fountain business, which is well-entrenched at restaurant chains such as McDonald's (MCD). According to Beverage Digest Editor John Sicher, "They have held onto their major accounts for many years."

Still, the cola wars are hardly over. If anything, they may become even tougher.

"We expect competition to remain intense," wrote S&P's Agnese, "and see an adverse secular trend in the carbonated beverage industry continuing as consumers seek out healthier alternatives to sugary soft drinks."