Despite strong growth, Cott faces market skeptics



Despite strong growth, Cott faces market skeptics




Despite strong growth, Cott faces market skeptics

As chairman and chief executive officer of Cott Corp., Gerald Pencer has taken much of the heat for the dramatic drop in the softdrink company’s share price this year. There has been blunt criticism in the financial community of his $16.4-million total pay package for 1993, persistent questions about Cott’s aggressive corporate accounting practices, and growing speculation about the very future of Cott’s private-label brands in the face of ferocious counterattacks from multinational rivals, Coke and Pepsi.

So, before the company’s annual meeting in Toronto last week, Pencer apparently took heed of the old adage: the best defence is a good offence. The gathering opened with a slick, 10-minute video that included a segment from a BBC television talk show on which American actress and self-proclaimed cola expert, Carrie Fisher, chose a Cott product in a blind taste-test. Pencer also had another diversion on hand—former Loblaw Co. Ltd. marketing whiz David Nichol. After months of rumors, Pencer finally confirmed that Nichol and Cott will become partners in a new company to develop retail-brand foods.

Then, Pencer tackled a range of controversial issues head on, including his view on why Cott is embroiled in so much controversy: its very success.

“Any company that has the audacity to take on the world’s most valuable brand and then is successful is bound to attract a lot of attention,” he explained.

Inside the meeting room, Pencer’s strategy appeared to work—however briefly. Only five shareholders in the audience of 600 posed a few, easily answered questions. Indeed, many in the crowd seemed far more intent on dashing to the sides of the auditorium as soon as the meeting was over to scoop up free samples of Cott products including Lakeport Brewing Corp. beers, Murphy’s potato chips and pop in such various incarnations as Sam’s Choice for Wal-Mart of Bentonville, Ark., Classic Cola for J. Sainsbury PLC of Britain, and Classic Selection for supermarket chain Ito-Yokado Co. Ltd. of Japan. But outside the annual meeting, Pencer’s arguments had little impact. The company’s stock price, which opened the week at $19, continued to slide, closing at $16.88. It has now fallen 66 per cent since it hit a high of $49.50 last October. And at the end of the week, the company announced that it will buy back about 10 per cent of its outstanding shares, a tactic commonly used by corporate managers to prop up sagging stocks. Still, industry analysts only criticized Pencer again for spending company cash on an overpriced stock. “Our recom-

mendation is a sell,” says Jacques Kavafian, a veteran consumer products analyst with Lévesque Beaubien Geoffrion Inc. of Montreal. “We believe the price will linger around $15—it will be dead money for a while.”

But Pencer and his team have already demonstrated that they will not take their lumps lying down. In May, the company filed a libel suit against Michael Palmer, president of Equity Research Associates Inc. of Toronto, and an analyst who has been bearish on Cott’s stock for a long time. The suit, filed in an Ontario court, seeks $14 million in damages. “I can’t talk because they are suing me,” Palmer told Maclean’s. “My lawyer told me not to talk.” However, Fraser Latta, Cott vice-chairman and chief operating officer, explained that the company launched the suit because Palmer issued a damaging report on Cott without doing adequate research. “We felt that this is a professional who clearly hadn’t done due diligence,” Latta added.

Pencer has lashed out at Cott’s critics in other forums as well. The company’s glossy 44-page annual report for the year that ended Jan. 31, for instance, devotes a page to the media, claiming the company has received more than its fair share of negative coverage. “Several who wrote about us did their homework, understood our company and reported fairly,” Pencer writes in the report. “Some, in our opinion, did not.”

Pencer, however, reserves his hardest knocks—and most of the

blame—for short sellers. They are the speculators who deal in stocks that they believe are going to fall: they sell borrowed stock in the hope that they will be able to profit by buying it back later at a lower price. Pencer joked at the annual meeting that he will write a book about the company and call it Cott Short. Despite that jibe, he made it clear that he sees the short sellers as the main culprits behind Cott’s plunging stock price. “If short sellers understand anything,” he said,

“they understand the use of misinformation, and the fact that there are huge amounts of money to be made by stirring up controversy.”

But one analyst, who asked not to be named, said that Pencer’s “shoot the messenger” approach to both the media and the short sellers is misguided. “Some people have been saying negative things all along about Cott, but the share

price only started to drop when the company itself lowered its earnings estimates,” the analyst said. “They have dropped from $1.25 a share (in fiscal 1995) to 90 cents a share.”

For Pencer, the fight against market forces is not a new experience. In the 1970s, the Montreal-born

entrepreneur moved to Calgary, where he founded Financial Trustco Capital Ltd. By the mid-1980s, the

company was based in Toronto and a rapidly rising

star in the financial services sector. Its U.S. broker and backer was Drexel Burnham Lambert Inc., the New York City firm that pioneered and created the market for junk bonds (corporate securities that rate below investment grade). When the stock market crashed in October, 1987, Financial Trustco was perilously overextended and it began to unravel. In 1988, it was forced to sell its principal subsidiary, Financial Trust Co., in a bailout that involved $84 million in federal and provincial loans and guarantees.

At Cott, Pencer faces scrutiny and tough questions once again. Each year, it pays retailers millions of dollars to put its drinks on their shelves. Cott treats those pay-

ments—which it calls “prepaid contract costs”—as an asset, which can be amortized over the fife of the contract. This means that only a small portion falls into the expense column each year, resulting in bigger reported profits, especially in the early years of the contract. Cott’s critics argue that this is a highly unusual practice and that the payments should instead be treated as an expense. This would result in smaller reported profits, they say, but a more accurate picture of the company’s health.

Cott officials argue that their accounting methods are entirely appropriate. Latta told Maclean’s that Cott is one of the few consumer product

companies to have threeto five-year contracts with its retailers. ‘We receive the benefits over the life of the contract, so it is appropriate that we write the costs off over the life of the contract,” he explained. Still, Cott was so stung by the persistent criticisms of its bookkeeping that it retained Roman Weil, a University of Chicago accounting professor, to review them. In his report to the company in May, he wrote that its accounting practices fully comply with Generally Accepted Accounting Principles—the profession’s guidelines—in both Canada and the United States. “Moreover,” Weil contin-

ued, “they are appropriate to the nature of the company’s business and consistent with a policy of complete and timely disclosure.”

Indeed, Cott’s recent poor performance on the stock market seems to be sharply at odds with its accomplishments in the marketplace. After the demise of Financial Trustco in 1989, Pencer moved to Cott, a regional soft drink bottler in Montreal owned by his father Harry Pencer. Over five years, profits have risen to $35 million on sales of $665 million from a loss of $500,000 on sales of $31 million. Cott-produced products are now available in seven countries and in more than 16,000 retail outlets. Many of these customers have impressive credentials as well: Wal-Mart is the world’s largest retailer, while Salisbury and Ito-Yokado are the second-largest food retailers in each of their respective markets.

Pencer admits that it will be difficult to sustain such a rapid rate of growth. But he predicts sales of $1 billion by the year 2000. And plans are in place, he says, that should help the company continue to flourish. Among these are the establishment of the as-yet-unnamed partnership with Nichol, who played a key role in developing and marketing private-label products—including the President’s Choice soft drinks made by Cott. The new venture will look for two or three other categories in which it can repeat Cott’s success with soft drinks.

Introducing new products could turn out to be an important move, especially in light of the fact that Coke and Pepsi are unlikely to ignore Cott’s inroads in their market. Indeed, just last week in its annual survey of the world’s most valuable brand names, Financial World ranked Coca-Cola first with a brand value of $48 billion. And in Canada, on Cott’s home turf, Coke is moving aggressively to maintain its supremacy. A case of 24 cans of Coke, which two years ago sold for about $7.99, now sells in many stores for $5.99. Such initiatives have cut Cott’s retail price advantage over Coke to about $1 from $3. As a result, says ISL International Surveys Ltd., a Toronto-based retail brand tracking company, store brands have slipped to 34 per cent of the Canadian market, down about six percentage points since February. If Cott’s stock is going to maintain its pop, Pencer will have to contend not only with doomsayers but The Real Thing as well.