Thirst for Cott may run dry: Hugely successful cola company could have overreached itself

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COTT, the private-label cola supplier that is weaning the world off Coke and Pepsi, has become a victim of its own excess.

Even in an over-the-counter market as insatiable as America's Nasdaq, with its unslakeable thirst for growth companies, Cott stands out as a cautionary tale of frothy expectations.

For five years, the Toronto- based supplier of own-brand soft drinks has been gaining market share from Coca-Cola and Pepsico in North America, and winning over big retailers with lower-priced colas.

A year ago, the company's name began to feature on the lists of Wall Street's better- known stock pickers. By October, its share price in the US had hit more than dollars 35 ( pounds 23) a piece, giving it a price-to-earnings multiple of roughly 100.

But while Cott's business since then appears to have gone from strength to strength - buying into Benjamin Shaw, the UK canner, and adding Sainsbury to a client list that already includes the world's largest retailer, Wal-Mart - its shares have been on a roller- coaster ride. Almost week to week, its price has been first inflated by rosy earnings predictions, then battered by short- sellers - people who sell stock they do not have in the hope of buying it later for a lower price. On Friday, its US price hit a new low, below dollars 14 a share.

Cott officials blame a variety of negative rumours on the short-sellers, suggesting they have spread them - and, on occasion, invented them - in an attempt to manipulate the share price. When an envelope containing derogatory Canadian press articles about Cott's chief executive Gerald Pencer arrived at the offices of the Independent on Sunday in March, just as Cott entered the UK market, Cott pointed the finger at aggressive sellers.

They were also blamed for reports that arguments with its auditors, Coopers & Lybrand, had delayed the publication of the 1994 annual report. When it was released on Friday, Cott's financial statements were signed without comment.

But the real damage to the company's lofty multiple has been done by American analysts, who have come to the late realisation that the company's explosive growth - 100 per cent annually in recent years - is extremely fragile.

'To a large extent, Cott's destiny is in the hands of Coke and Pepsico,' says Caroline Levy, Lehman Brothers analyst. She was one of those on Wall Street who jumped into the euphoria at beginning of June with an 'aggressive buy' recommendation - only to retreat to a 'hold' when the company issued an earnings warning last week.

Ms Levy was not alone: Morgan Stanley, which was lead underwriter on a dollars 102m secondary offering by Cott last summer and was among the most bullish American watchers of the company, also cut its rating to a 'hold.'

The earnings warning, delivered to analysts at a closed briefing in Toronto last Tuesday, simply acknowledged what US investors should have realised was inevitable: that Coca-Cola and Pepsico, having lost more than a quarter of their Canadian supermarket sales to Cott, are responding by slashing their wholesale prices there.

What management will not say is whether similar price wars will break out in the US, where the company's sales soared 65 per cent in the first quarter. Cott's chief operating officer, Fraser Latta, said he has heard 'concerns' as to the reactions of the big soft drink companies in the US, but believes US margins are 'trending higher'.

Lehman's Ms Levy predicts a tougher North American market place will cause Cott to accelerate its expansion in Europe, where new operations in France, Spain, Belgium and the Netherlands are expected to cost Cdollars 15m ( pounds 7m) more this year.

One Canadian analyst blames Cott for failing to dampen stock market excitement when it was at its height. 'Disingenuous would be too strong a word,' he says. 'But once again, management is doing little to counter hugely unrealistic market expectations.'

Cott's self-puffery has given the company a poor image among many Canadian investors who otherwise admire its basic business, which grew out of a line of discount soft drinks that Mr Pencer's father, Harry, licensed from its New Hampshire owners in the 1950s. Cott was floated in 1986 and launched itself into the private- label business in 1988 when the Loblaw supermarket chain, the pioneer of own brands in North America, was seeking a supplier for a line of soft drinks.

More recently, some analysts have complained about the Pencer family's timing in cashing in Cott share options they have been awarded over the year - some at an exercise price as low as 67 cents. From 1991 until Cott's peak last autumn, Mr Pencer and his brothers, Samuel and William, have sold some dollars 80m worth of share options, according to Ontario Securities Commission reports.

The executives say the sales were simply timely profit-taking, representing only 10 to 20 per cent of their holdings in the company. Cott's growth prospects remain very strong, and the family has no intention of 'bailing out', according to Heather Reisman, company president.

Jacques Kavafian, an analyst with Levesque Beaubien Geoffrion in Montreal, believes Cott's growth rate will drop off dramatically this year. Cott is a good investment, he says, but at what price?

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