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On the surface, Cadbury Schweppes (LSE: CBRY) is an appealing company for long-term investors. The group owns plenty of popular branded products, the demand for which is reasonably steady and predictable. But like most consumer goods companies, acquisitions are a prevalent feature. At the moment, it's unclear as to whether shareholders have benefited from the corporate activity. The business
Cadbury Schweppes manufacturers and distributes a wide range of branded confectionery and beverages. The stock market history of Cadbury Schweppes can be traced back to 1897, when tonic water specialists Schweppes first floated on the London exchange. The same year saw Richard Cadbury develop his first milk chocolate, and in the UK at least, his products have remained firm favourites ever since. For instance, Cadbury's Dairy Milk was launched in 1905, Cadbury's Flake was developed in 1920 and the Cadbury's Creme Egg was introduced in 1923. After Schweppes and Cadbury merged in 1969, acquisitions helped bolster the group's fortunes. Notable purchases were UK confectioners Trebor and Bassett in 1989 and US drink group Dr Pepper/Seven Up in 1995. The latter acquisition helped catapult Cadbury Schweppes into the upper echelons of the global soft drinks market, with subsequent purchases reaffirming the group's position as the industry number three. With a myriad of different chocolates and sweets sold throughout the world too, Cadbury Schweppes is also the number four in the worldwide confectionery market. Recent acquisitions have concentrated on the drinks side of the business. Alongside a string of minor purchases, acquisitions have included Pernod Ricard's soft drinks brands and businesses in Continental Europe, North America and Australia, the ReaLemon and ReaLime brands, Slush Puppie, Snapple and Hawaiian Punch. Purchases have totalled some £2.6b over the past five years. However, the spending spree has been offset by disposals, the most significant of which being the £623m sale of bottler Coca-Cola & Schweppes Beverages in 1997 and the £434m sale of various drink brands in 1998. The financials Here's the five-year record of Cadbury Schweppes:To December 31st 1997 1998 1999 2000 2001
Turnover (£m) 4,220 4,106 4,301 4,575 5,519
Operating Profit* (£m) 608 628 637 726 877
Exceptional Items (£m) 412 (30) 350 27 31
Pre-tax Profit (£m) 987 579 961 769 859
Earnings per share* (p) 18.6 19.7 19.5 24.1 27.8
Dividend per share (p) 9.0 9.5 10.0 10.5 11.0
(* after major restructuring costs but before goodwill amortisation)
The recent financial performance of Cadbury Schweppes is complicated by the corporate activity. Indeed, a charge for "major restructuring" has been seen every year since 1992, the costs of which have totalled some £362m over that time. The exceptional items shown in the table above relate mainly to the gains from the aforementioned disposals.
The progress of the group's operating margin has been notable. From just 8.9% in 1987, the figure rose to 11.2% in 1991, 12.6% in 1995 and currently stands at 15.9%. It appears the acquisitions have been of the more attractive higher margin variety, and/or substantial synergies have been created.
It's interesting to note how the operating margins at Cadbury Schweppes break down.
To December 31st 2001 Sales Operating Operating
Profit Profit
(£m) (£m) (%)
North America Beverages 2,168 541 25.0
Europe Beverages 571 91 15.9
Europe Confectionery 1,532 212 13.8
Americas Confectionery 312 44 14.1
Asia Pacific 639 109 17.1
Africa, India and Middle East 288 33 11.5
Even though Dr Pepper and 7UP are not the most popular of soft drinks in North America, they still help to produce a 25% operating margin. In fact, that performance is better than the equivalent 19.7% figure at Coca-Cola (NYSE: KO). Branded confectionery generates a reasonable 14% margin.
Cash flow and return on equity
Cadbury Schweppes excels on the cash flow front:
To December 31st 1997 1998 1999 2000 2001 Operating Profit (£m) 608 628 637 726 877 Working capital change (£m) (46) (80) 6 37 88 Depreciation 145 205 150 153 162 Net capital expenditure (£m) (204) (143) (108) (101) (233)Over the past five years, the company's cash flows have not been troubled by working capital requirements. Furthermore, net expenditure on fixed assets since 1997 has effectively mirrored the cumulative depreciation charge.
It's also worth highlighting how the group has become less reliant on fixed assets over time.
To December 31st 1997 1998 1999 2000 2001 Operating Profit (£m) 608 628 637 726 877Ten years ago, fixed assets of £1,054m helped Cadbury Schweppes generate operating profits of £371m. Over the following decade, operating profits have more than doubled while fixed assets have increased by just 20%. Certainly the fortunes of Cadbury Schweppes are based on more difficult-to-replicate intangible assets. But the recent increase in intangible assets (i.e. the increase in purchased goodwill) has lead to relatively uninspiring reinvestment returns.
Tangible fixed assets (£m) 1,221 1,126 1,091 1,106 1,209 Intangible fixed assets (£m) 1,575 1,607 1,725 3,163 3,721
Between 1996 and 2001, shareholders' funds at Cadbury Schweppes jumped from £3,012m to £4,704m. Over the same time, earnings (adjusted for exceptional items) improved from £340m to £558m. The resulting incremental return on equity comes to 12.9%.
Furthermore, the return on the average equity employed during 2001 was 12.2%. Although there's the possibility of benefits having yet to be fully realised from recent acquisitions, past return on equity figures have bounced around in the 10-15% range. Aided by £2b of borrowings too, there's nothing really convincing to suggest Cadbury Schweppes has an outstanding record of reinvesting its profits.
Summary
Cadbury Schweppes has many attractive qualities. It's a visible, simple and predictable business underpinned by great cash flows. Over the years, acquisitions have led to an improvement in margins and a reduction in the relative use of fixed assets. However, there's no concrete evidence to suggest all the corporate activity has led -- or will ever lead -- to above-average returns on shareholders' equity. All in all, especially given the complex financial history, it's probably worth informally monitoring Cadbury Schweppes for the time being, and revisiting the company at some later date,