October 30, 2000

Pepsi Edges Out Coke in Deal
To Buy South Beach Beverage

By BETSY MCKAY and NIKHIL DEOGUN
Staff Reporters of THE WALL STREET JOURNAL

In the New Age version of the cola wars, chalk one up for PepsiCo Inc.

The Purchase, N.Y., beverage and snack-food company is expected to announce Monday that it has reached an agreement to acquire South Beach Beverage Co. for $370 million, edging out archrival Coca-Cola Co. for the hip marketer of New Age drinks.

The acquisition puts in Pepsi's hands the company that has come to personify the trendy category of herb and vitamin-fortified beverages; SoBe's juice blends and teas contain nutrients like gingko, guarana and kava kava with names like Zen Blend and Lizard Fuel. The deal also considerably strengthens Pepsi's position in noncarbonated beverages, which are growing 15 times faster than carbonated soft drinks.

SoBe had been looked at for some time by Coke and Pepsi, which don't yet market such drinks on their own but want to tap into the increasingly popular segment. SoBe became a particularly attractive acquisition target after Cadbury Schweppes PLC acquired Snapple, another major noncarbonated beverage brand, from Triarc Cos. last month.

Coke had been weighing an investment in SoBe in a proposed three-way deal with private equity firm J.W. Childs Associates LP. In April, J.W. Childs signed a letter of intent to buy a 70% stake in SoBe, and talks to include Coke began shortly thereafter. Last month, the outline of a deal appeared to be ready, with J.W. Childs acquiring a 50% stake and Coke a 20% stake, and analysts were expecting the deal to be announced soon. But the talks got bogged down as the three parties squabbled over various terms, said John Bello, SoBe's founder and chief executive.

By Sept. 30, SoBe's no-shop clause with Childs and Coke, which prevented SoBe from entering into takeover discussions with other parties, expired. About two weeks ago, Pepsi swept in and hammered out an agreement with Mr. Bello. SoBe was advised by J. P. Morgan & Co.

The deal now puts two powerful noncarbonated brands -- Snapple and SoBe -- in the hands of Coke's competitors. A spokesman for Coke declined to comment. J. W. Childs could not be reached for comment.

Pepsi is paying a steep price for a company that generates faddish products and whose staying power is still unknown. The history of big companies buying entrepreneurial beverage brands isn't encouraging. Snapple, for example, foundered under Quaker Oats Co., which sold it at a huge loss to Triarc, whose small entrepreneurial beverage unit revived it.

Indeed, becoming a player in a fashion business like New Age beverages isn't easy for a corporate giant. Coke and Pepsi are used to marketing big brands on a mass scale. Companies like SoBe have made their names by being flexible, innovating quickly, and introducing several new products a year.

SoBe will be operated as a separate business unit out of its current headquarters in Norwalk, Conn., and will continue to be run Mr. Bello, who will retain a small equity stake. He will report to Pepsi's North American beverage chief, Gary Rodkin.

"This is a tremendous complement to our portfolio that will round us out in our vision of being the fastest-growing total beverage company," Mr. Rodkin said in an interview. "It's an opportunity to push the edges of being innovative and entrepreneurial."

Mr. Bello, who once worked at Pepsi as a marketing manager for Mountain Dew and Pepsi-Cola, said he was pleased with the deal. "I don't think we could be at a better place," he said. "Pepsi has the enthusiasm, vision, and energy to commit resources to take SoBe to the next level."

The acquisition complements Pepsi's growing arsenal of noncarbonated beverages. Its Aquafina is the No. 1 single-serve bottled water brand. Pepsi also markets Lipton iced tea, Frappucino coffee, All-Sport, a sports drink, Fruitworks, a juice drink and Tropicana juices.

Having SoBe on board will give Pepsi a chance to study up close a company that built a brand from the grass roots. Pepsi will also continue to develop new beverages on its own. Mr. Rodkin said. "It's bound to benefit us across the entire business as we watch the way they operate," he said.

Founded in 1995 by Mr. Bello and Tom Schwalm, SoBe targeted kids who were looking for an alternative to mass-marketed soft drinks by offering them exotic-looking drinks that projected a healthy image. Grass-roots promotion, with a mascot of dueling lizards, painted "love buses," and marketing at alternative sports events like skateboarding and snowboarding competitions, helped sales take off quickly. So did rapid innovation. SoBe now sells over 30 different beverages, and is introducing three new lines next year, including an energy drink, sports drink, and "Love Bus Brew," a chocolate drink. Mr. Bello says he expects SoBe to boost sales this year to 20 million cases of its 20 oz. drinks, after selling 14.8 million cases last year. He anticipates revenues of between $215 million and $225 million.

SoBe could expand even more rapidly under Pepsi, with new investment and access to the beverage giant's massive bottling system. Currently sold mostly by beer distributors and bottlers of third-tier soft drinks, SoBe holds a strong position only in about one-third of the U.S., Mr. Bello said. SoBe has also only recently started to expand overseas, with a recent entry into the British market.

Messrs. Rodkin and Bello said they would evaluate SoBe's distribution market by market, and leave strong distribution partnerships in place. Less than 10% of SoBe's volume is handled by Coke or Pepsi bottlers, according to a recent report by Bill Pecoriello, an analyst with Sanford Bernstein & Co. Mr. Rodkin added that Pepsi would invest in supporting the SoBe brand, possibly including an upgrade of equipment.

Messrs. Rodkin and Bello said that despite the new corporate ownership, SoBe would remain an entrepreneurial entity, with considerable leeway to develop and market its own products. "We won't try to Pepsi-ize this," Mr. Rodkin said. He played down concerns over health claims that SoBe and some competitors have made on their products, which have drawn the attention of the Food and Drug Administration. SoBe, he said, has stayed "within bounds" while remaining edgy. "We don't think anything's out of balance," he said.

Coke, which has said it wants to expand its beverage portfolio, will now have to step up its own innovation efforts to keep up with Pepsi and Cadbury in the small but fashionable alternative segment. The company has said it has several plans in the works and recently announced it will launch a new energy drink, called KMX, in some regional markets next month.

Write to Betsy McKay at betsy.mckay@wsj.com and Nikhil Deogun at nik.deogun@wsj.com