A New-Age Drink War Starts As Soda Flops

By Daniel Eisenberg

You can forgive Pepsi chairman Roger Enrico for bubbling over with enthusiasm last week as he announced the company's $13 billion purchase of food-and-drink giant Quaker Oats. Pepsi, as second fiddle to archrival Coke in the cola wars, doesn't get that many chances to declare victory. So Enrico, who has recently put some fizz back in the company, wasn't about to pass up this rare opportunity. "We are the category captain, 1 1/2 times the size of the next largest player," he declared.

The runner-up in this case, of course, is Coke, but Enrico wasn't referring to the $58 billion U.S. soda business. Instead, he was talking about the nearly $20 billion emerging market for alternative beverages, those ubiquitous juices, teas, bottled waters, sports and energy drinks, packed with exotic herbs and vitamins, that are overwhelming store shelves. Quaker may be known for oatmeal, but its magic potion is Gatorade, a $2 billion-a-year dynamo of a brand that has a hammerlock on 80% of the sports-drink market. "When we're done," Gatorade chief Susan Wellington told analysts earlier this year, "tap water will be relegated to showers and washing dishes." Coming on the heels of Pepsi's recent $370 million purchase of SoBe, the hottest of the New Age tonics, the Gatorade deal was Enrico's crowning achievement, effectively solidifying Pepsi's dominance in the fastest-growing segment of the drinks business. "In this area," says Emanuel Goldman, an analyst at ING Barings, "the tables are turned."

As it happens, the whole business is turning. Last year, for the first time in decades, Americans' consumption of carbonated soft drinks actually declined. Sodas still command the biggest share of sips in the U.S., but it's the entrepreneurial upstarts like SoBe, Nantucket Nectars, Fresh Samantha and Honest Tea that are making people thirsty. While the nonbubbly business is growing almost 10% a year--and bottled water is chugging along at a rapid, 30% clip--sodas have suddenly gone flat. Noncarbs, which generally command higher prices, now account for more than half of all industry growth, according to Sanford Bernstein & Co. No wonder, then, that every beverage maker is feverishly working to come up with cola alternatives that promise to be healthy, not just refreshing. Norm Snyder, COO of SoBe, says, "Before, the big boys were just watching from the sidelines, but now they're betting on it with their dollars."

And how. Earlier this fall Cadbury-Schweppes, the British owner of Dr Pepper and Seven-Up, spent $1.45 billion to gulp down juice-and-tea leader Snapple. "The ingredients in [carbonated] soft drinks are essentially the same as they've always been. You can only add a little bit of flavor to them," says Todd Stitzer, Cadbury's chief strategy officer, of the deal.

After years of treating its other drinks as second-class beverages, Coke is about to attack its liquid liability. CEO Douglas Daft promises to flood the market with new products without taking his eye off the franchise, and the company has perhaps 100 concepts in development. The first to hit store shelves, just rolling out now, is KMX, a caffeine-and-herb-laced energy drink that, like Anheuser-Busch's new 180, is meant to compete with Red Bull, the increasingly popular underground drink used as a mixer in nightclubs and bars. "We have to guess a little bit, and it's a riskier proposition," says Jeffrey Dunn, group president of Coca Cola North America. "But I do think we can walk and chew gum at the same time." Not everyone in the industry is so sure. "Left to its own devices, Coke has proved horrible at creating new products," says Tom Pirko, head of industry-consultant Bevmark.

If Coke is going to return to its traditional pace of double-digit earnings growth, it has to diversify, as it has overseas, where it gets 75% of its business and puts Pepsi to shame. In Japan, for instance, where alternative drinks are more popular than sodas, Coke's ready-to-drink coffee leads the market--and even outsells the flagship brand itself. Daft, who is leading a turnaround after replacing Douglas Ivester a year ago, viewed Gatorade as a growth engine. But the board, led by Warren Buffett, thought the price for Quaker was too high--leaving many Coke bottlers to wonder if the price of not buying will be even higher.

On the other hand, the feeling at Pepsi, which has enjoyed five straight strong quarters and whose stock is up 50% in the past year, is one of jubilation. In the booming market for bottled water, its brand, Aquafina, became a leader without TV ads, ahead of Coke's Dasani. Likewise, Pepsi's Lipton iced tea is tops in its category.

With SoBe, which soared from $1 million in annual sales in 1996 to nearly $250 million this year, Pepsi bought a pioneering, distinctive brand with genuine street cred that can be used as a laboratory for new ideas. Add Gatorade to the mix, and Pepsi--which also owns thriving chilled-juice maker Tropicana--will increase its clout in supermarkets, where it already claims to be the single biggest contributor to the bottom line.

But in the crowded, fickle market for New Age, premium drinks, nothing is guaranteed. Brand equity doesn't carry the same weight it did during the cola wars; for instance, convenience-chain 7-Eleven, which once reserved most of its cooler space for the big two's products, has scaled back its marketing agreements with both. Noncarbs have surpassed sodas as the most popular soft drinks at the chain. "Consumers are becoming more promiscuous in their tastes," notes John Sicher, editor of Beverage Digest.

Considering the vast selection, that's understandable. Should you choose Odwalla's Think Drink, packed with gingko biloba and Lions Mane Mycelium? Or Arizona RX Stress Relief Elixir, including ginseng and kava-kava? What about Visionade, which claims to help prevent blindness? All these could turn out to be a fad--New Age snake oils for people who don't realize they're just downing a different kind of sugar water. But as far as Pepsi is concerned, these alternative drinks are the real thing.

--With reporting by Collette McKenna/Atlanta

With reporting by Collette McKenna/Atlanta