Monster Beverage Corp (NASDAQ:MNST)’s capital-light business model allows it to generate higher returns on capital despite a costlier advertising budget. In other words, Monster Beverage Corp (NASDAQ:MNST) earns a higher profit by spending more cash on the important stuff — advertising — and less money on the less important stuff — production and distribution. As a result, shareholders get more bang for their buck.
The ability to spend a high percentage of revenue on advertising may be the reason that Monster continues to gain market share to the detriment of Coca-Cola and PepsiCo, Inc. (NYSE:PEP).
The business model has its drawbacks, however. Although consumers’ minds are won and lost in the advertising realm, distribution provides an important barrier to entry that gives control to large beverage distributors. Monster’s two largest distributors are Coca-Cola and Anheuser-Busch InBev NV (ADR) (NYSE:BUD).
Both companies have enormous bargaining power because Monster Beverage Corp (NASDAQ:MNST) would be unable to deliver its product without them. Coca-Cola already has a small cadre of energy drink brands, most notably Full Throttle. If Monster ever became too much of a headache for Coca-Cola, it could easily ruin its smaller rival.
Bottom line
Advertising is the most important function of beverage companies. Although there is always a constituency for great taste and low prices, the vast majority of consumers make purchase decisions based on unconscious factors that have little to do with the physical product. Coca-Cola and PepsiCo, Inc. (NYSE:PEP) have changed their strategies to target the unconscious mind, while Monster is positioned entirely around its advertising function.
Ultimately, the spoils go to the companies that produce the most effective advertising campaigns. Monster Beverage Corp (NASDAQ:MNST) has the right idea by focusing on advertising, but The Coca-Cola Company (NYSE:KO) and PepsiCo, Inc. (NYSE:PEP) have worldwide distribution networks that new entrants are unable to replicate. Most likely, Monster will continue growing until it becomes a real pain for Coca-Cola, and then the king of carbonated soft drinks will likely decide to acquire its smaller competitor. That would be a win-win for all shareholders.
The article These Companies Sell Lifestyles, Not Beverages originally appeared on Fool.com and is written by Ted Cooper.
Ted Cooper has no position in any stocks mentioned. The Motley Fool recommends Coca-Cola, Monster Beverage, and PepsiCo. The Motley Fool owns shares of Monster Beverage and PepsiCo.
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