A Coca-Cola Amatil shareholder's worst nightmare

Coca-Cola Amatil Ltd (ASX:CCL) is no longer able to leverage its brand name to command a higher price from consumers.

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As some readers may know, I've been a shareholder of Coca-Cola Amatil Ltd (ASX: CCL) for a couple of years now, and have written about my investment thesis at some length. A year ago almost to the day I wrote in-depth about some of the risks facing the company. A key worry was that Amatil would no longer be able to charge a higher price for its beverages compared to competitors like PepsiCo and Schweppes.

This has proven the case, with weakness in prices over the past few years compounded by recent media reports that suggest Amatil has been discounting heavily in order to bring its prices more in line with competitors Pepsi and Schweppes (which are cheaper). Unfortunately, Coca-Cola's solid profit margins depend on the company being able to command those higher prices.

My previous estimations of the company's value suggested it was worth around $11 in a conservative scenario, but that depended on margins remaining solid. Another key element was being able to use brand recognition to drive sales, either in terms of volume or price. With the company looking to cut prices, it suggests Coke products are no longer able to command a price premium to similar products like Pepsi. Although this could drive volumes, I'm not sure the company will see volume increase enough to make up for lower prices.

Part of this is a retail problem, with Amatil being pressured by supermarkets Woolworths Limited (ASX: WOW) and Wesfarmers Ltd's (ASX: WES) Coles in their incessant competition to offer lower prices and better value to customers. There's not a lot Amatil can do to push back against this type of pressure, and many of its other products don't have the same brand recognition as the red and white soft drink with the curly-lettered label.

What to do, what to do?

Difficulty maintaining high prices has weakened my investment thesis. However, part of my thesis also involves product diversification and higher sales of non-soft drink beverages – which don't command the 'Coke' price premium – so the impact is slightly mitigated, but still relevant as Coke sales are very much the main game.

The other main prospect is growth in Indonesia, which is strong but comes from a low base. This area is currently a drain on group resources, and it may be years before it becomes a significant contributor to earnings.

For now, Amatil remains a strong business with reliable cash flows and a decent balance sheet and although the turnaround process continues, I would say shares are trading around or slightly below fair value.

Motley Fool contributor Sean O'Neill owns shares of Coca-Cola Amatil Limited. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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