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New York City's Curb on Oversized Sugary Drinks

Dated : 04-Oct-2012
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New York City’s Curb on Oversized Sugary Drinks May Lead Fast Food Operators to Find Healthier Alternatives to Sugar: MCD, KO, PEP, YUM, STVF, STEV, SANW

Sugary sodas are being blamed for a big part of the nation’s bulging waistlines. According to the Centers for Disease Control and Prevention, two-thirds of the country’s adults are overweight or obese. Sugar and high-fructose corn syrup (HFCS), the economical sweetener that’s used in most sodas, are shouldering a big part of the blame. A can of regular soda typically has about 40 grams of high-fructose corn syrup and 140 calories. In early September, the New York City Board of Health took a step in curbing the overconsumption of sugar and HFCS, and passed Mayor Bloomberg’s controversial plan to limit the size of large sugary drinks to no larger than 16oz servings. The regulations apply to any establishment with a food-service license, including fast food outlets, pizzerias, and even Yankee Stadium. The ban does not include convenience stores like 7-Eleven, where you can still gorge on a 64oz. sugar and caffeine laced Double Gulp, which falls under a different jurisdiction. Diet beverages, beverages made mostly of milk or unsweetened fruit juice, or beer and other alcoholic beverages were also excluded.

The ban now turns a small size McDonald’s (NYSE:MCD) drink into the new large size. In some ways it’s turning back the clock on the size of drinks and, hopefully Americans’ waistlines. When MCD first partnered with Coca-Cola (NYSE:KO) in the 1950s, the fountain drink size was a mere 7oz. and 22 grams of sugar. By the 1960s, the large cup grew to 16oz.; and by 1974, the gut-busting drinks hit 21oz. Today MCD’s large is 32oz. and has a whopping 102 grams of sugar. According to Dr. Mehmet Oz, Americans are consuming 200-300 more calories today than 30 years ago, with sugary drinks having the largest increase. The average American drinks 53 gallons of soda a year, which amounts to drinking 49 pounds of sugar. Soda is loaded with caffeine, high-fructose corn syrup, and calories. In addition to contributing to weight gain, drinking soda increases your risk of diabetes, bone weakening, and tooth decay. Dr. Oz explains that high-fructose corn syrup, used in most non-diet sodas, raises blood sugar faster than regular cane sugar. Because the body converts this extra sugar into fat, research suggests that high-fructose corn syrup is particularly associated with increased body fat and obesity.

The NYC ban on sugary beverages has begun to send shockwaves not just through companies like MCD, but other institutions as well. Mayor Bloomberg announced 16 hospitals have agreed to a voluntary initiative curbing supersized sugary beverages, eliminating candy from vending machines, and limiting fried food in the hospitals’ cafeterias. Sugar is under attack, and companies like MCD and Coca-Cola are in the crosshairs. Soda fountain sales make up about 24 percent of the 9.3 billion cases of soda sold each year, or $18 billion in a total market worth $75.7 billion. Coca-Cola controls 70% of U.S. fountain sales, followed by PepsiCo (NYSE:PEP) with 19%, and Dr. Pepper Snapple Group (NYSE:DPS) at 11%. Edward Jones estimates that 5%, or $1.35 billion, of MCD’s revenue comes from sodas. According to the research firm Technomic, carbonated soft drinks account for 10 % of fast food and “fast casual” restaurants sales in the U.S. When estimated profit margins are 90% on such beverages, there’s a huge amount of money at stake for both beverage and fast food companies. This is not the first time MCD felt pressure to adjust its menu. In 2004 MCD did away with its supersize menu and added healthier choices, partly due to filmmaker Morgan Spurlock’s documentary “Super Size Me,” in which the audience was treated to watch the deterioration of the filmmaker during his one month of eating nothing but McDonald’s food.

So how can an investor profit from what might be a nationwide attack on oversized sugary beverages? It would make sense that companies like MCD, Yum! Brands (NYSE:YUM) (Taco Bell, KFC, and Pizza Hut), along with Coca-Cola and PepsiCo will not sit idly by as they see their valued soda business deteriorate. Look for these companies to find a zero calorie or low calorie alternative to sweeten their products. The difficult part is figuring out how to make a zero or low calorie product taste good in soft drinks. “Every sweetener has its own notes that need to be mixed with other flavors,” said Mehmood Khan, chief science officer for PepsiCo. “It’s a bit like an orchestra playing music, as opposed to one instrument.”

Plant-derived stevia may be the answer to pleasing both New York’s ban on oversized sugary drinks and the food and beverage industry’s need for a natural great tasting zero calorie sweetener that customers can gulp down without the negative health effects. Today there are growers taking different approaches to cultivating stevia and attempting to better the sweet flavors and limit the aftertaste. Three companies below are using different approaches in hopes of developing the “holy grail” of the perfect stevia sweetener. Each of these have different business models with each having a chance at success.

Stevia First Corp. (OTC:STVF), a nano-cap development company based in California’s Central Valley, may have jumped to the top of the list of potential stevia producers. The reason this $37.2 million market cap company is catching some added attention is because of an announcement that it had acquired an entirely new process of producing the sweet rebaudioside A (Reb A) from stevia. This process may make the growing of the entire stevia plant obsolete due to the ability for it to bypass or significantly diminish the need to grow the stevia plant. Scientists at Agriculture and Agri-Food Canada (AAFC) discovered and characterized the natural biochemical pathways that were involved in the production of the sweet components of the stevia leaf. AAFC has developed a way to produce the stevia through fermentation-based technologies, and through these methods is capable of converting low-cost plant materials into sweet steviol glycosides. With that discovery it became possible to produce the sweet extract through a method other than the growing of the plants in order to extract the sweet Reb A from the leaves. In other words, this discovery has made it possible to cost-effectively produce Reb A without the need to actually grow the stevia plant. Why that is such a big deal? If its process is successful on a large scale production level, the question can be answered in two words: costs and consistency. Extracting the Reb A from the stevia leaves is a complex extraction and purification process which accounts for about 70% of the cost of developing the product. The fermentation method bypasses that process; thus, there can be an abundant amount of Reb A produced with reduced costs.

A second concern with stevia has been the consistency of the Reb A, as this is a natural product with natural variations of concentrations and profiles of the various extract components. Food and beverage makers have been aware of this and have concerns about the reliability of the product and supply line. The fermentation process should guarantee consistency of the Reb A with each batch produced. As the company continues to develop more desirable Reb A profiles, this method, since it’s a fermentation process, can duplicate the flavor regardless of soil growing conditions or weather. Vineland Research and Innovation Centre (Vineland) of Ontario, Canada currently controls intellectual property related to AAFC’s technology, and Stevia First has entered into the licensing agreement with Vineland encompassing AAFC’s fermentation-based production methods. Stevia First Corp.’s CEO commented on the licensing agreement, “In the stevia industry, which has grown tremendously over the past several years, there is still significant unmet demand from multinational companies for a supply chain that can consistently produce great-tasting stevia extract in large quantities. The technology we’ve licensed represents a potential solution for this need, and one that our scientific team is eager to commercialize.” The stock has been trading at elevated levels since its August 29th press release announcing its acquisition of the fermentation process license. It has been trading in a fairly tight range from $0.6 to $0.7 as investors await the next news from the company. A break out close above $0.7 could signal a buying opportunity or a dip below $0.6, although investors should watch closely if the latter support remains broken for too long.

Stevia Corp. (PINK:STEV) (Not to be confused with Stevia First Corp.) is a micro-cap development stage farm management company based in Indianapolis, Indiana, with a market cap of $24.63 million. It is utilizing what it sees as best practice agronomic competency in order to deliver high-value stevia through proprietary plant breeding, excellent agricultural methodologies, and innovative post-harvest techniques. Earlier this year the company announced a joint venture agreement with Tech-New Bio-Technology and its affiliates which resulted in technology and intellectual property transfers and the creation of Stevia TechNew Limited, a Hong Kong-registered company. TechNew was founded in 2008 and currently services more than 200 aquaculture farms in China. Stevia Corp. is focusing its business model on growers predominately in Vietnam and Indonesia; and though costs are far less there than in the US, just like any company receiving its product from overseas, it is also dependent on sources out of its control, which can make this company a very risky prospect. Stevia Corp. is trading in the upper $0.30 range, and there will probably be little movement either up or down until the company releases some significant news.

S&W Seed Company (NASDAQ:SANW), a central California grower that specializes in breeding non-dormant alfalfa varieties, has jumped into the stevia growing market by dedicating 118 acres of fertile California farm land to stevia production. This $35.36 million market cap company has taken its expertise with over 30 years of cultivating, developing, and breeding high quality seeds to produce what it hopes will be high quality stevia plants. Unlike the start-up development companies, S&W Seed is actually growing and harvesting stevia in the USA, and recently announced it has commenced its commercial harvest of stevia, and anticipate that at least one additional stevia leaf harvest will be completed during calendar year 2012.

Last year S&W Seed entered into a five-year agreement with PureCircle (PURE), the world’s leading producer of high purity stevia products, to provide a U.S.-based supply of stevia leaves. Mark Grewal, chief executive officer of S&W Seed Company, commented, “Our stevia program continues to make progress. This is the second harvest from the same stevia plants which reaffirms our belief that, unlike China, the California climate is suited for harvests on a multiple year basis. Additionally, we continue to gain valuable insight as our agronomists experiment with various planting and harvesting techniques. As we pioneer commercial stevia production in California, we are heartened by overcoming the various challenges that arise. The developmental knowledge and experience gained should serve S&W well into the future.” S&W Seed earnings for 2012, as presented on September 27th, were impressive with revenue up %289 on an annual basis to $14.1 million. Stevia field production increased by over 100% with 250 acres dedicated to stevia as opposed to 114 acres in 2011. The company’s shares didn’t respond as well as I anticipated, but may begin trending upward as the earnings and updates are digested. It is currently trading at $6.07, on the upper end of its 52-week range of $3.95-$6.69.

The facts are that shoppers are beginning to consume less sugary soda. The Coca-Cola Company states that Americans’ added-sugar consumption from soda decreased by 39 percent from 1999 to 2008. Clearly, consumers’ preferences are shifting to healthier alternatives, but this shift offers unique opportunities for investors. If food companies, like MCD, are able to develop a natural or low calorie, great tasting alternative to sugary beverages, their stocks could move upward nicely. However, if a food additive company can develop a great tasting stevia product, it could see its stock move sharply upward.

S&W Seed has a 30 year history and, while stevia might just send its stock skyward, failure in its stevia venture would not be catastrophic as it would still have its successful alfalfa business to fall back on. Stevia First needs to be successful in its stevia model implementation and subsequent stevia production, be it in its newly acquired fermentation process or on its 1000 acre farm in California that it has dedicated to production and growth of stevia. If the new fermentation method of producing high grade Reb A proves successful, it could make Stevia First desirable for one of the larger beverage companies or food processors to step in and establish a desirable supply contract or make a bid for the company. Stevia Corp has a potentially lucrative, although high-risk, business model in place as it depends on relationships half a world away along with the associated risk of currency fluctuations. As always, on any small development phase company, investors are advised to consider the risks and be willing to accept or anticipate the volatility in what might be promising investments.