Pepsi: Heavy advertising investment and a new administration may give the refresco underdog another upswing.

In 1994, with the economy booming and the peso trading at three to the dollar. Pepsi made a bold play in the Coke-dominated Mexican soft-drink market. Eyeing boosted market share, the company bet consumers would support greater sales of single-serving cans at the expense of traditional, but bulky glass and heavy-plastic returnables.

Unbeknownst to Pepsi. it was an illtimed move--the government devalued the peso late in the year. In the ensuing economic crisis, Mexicans saw their buying power evaporate and consumers quickly switched from cans, back to the less convenient, but cheaper, empty returnables they had left to gather dust in pantry closets.

The Mexican market's sharp U-turn to returnables was a big setback for Pepsi, which was hoping to make inroads in one of the world's Leading per-capita cola markets.

Prospects of grabbing market share away from heavyweight Coca-Cola were put on hold, and the company was saddled with losses from unsold cans as dollar-denominated aluminum prices now put them out of reach for most Mexicans.

THE PEPSI CHALLENGE 

Since the peso debacle. Pepsi hasn't made a marked improvement in total soft drinks market share. which continues to fluctuate at mid-1990s levels of between 25% and 30% according to analysts and company sources. For Atlanta-based Coca-Cola's main bottlers in Mexico--Coca-Cola Femsa (KOF), Panamco Mexico and Contar--Pepsi remains a very distant second in customer preference.

"Now the market continues to migrate to non-returnables, but KOF had a long time to do so. Overall, Coca-Cola continues to control the market." said Francisco Rivero, head of research at Santander Investment in Mexico City.

But the rough going hasn't daunted the underdog maker of Pepsi-Cola, Pepsi Light. 7-Up and other fizzy, as well as non-carbonated, drinks Pepsi executives say their market share in Mexico is expanding as they look to improve on annual sales of roughly US$1 billion.

"The opportunity is tremendous. We've had our ups and downs The industry as a whole went through a difficult two-to-three-year period. Now it has just finished stabilizing, and today we are in an upward trend," PepsiCo de Mexico President Oscar Cazares told BUSINESS MEXICO, in an interview at the company's Santa Fe offices.

This year. PepsiCo--US$4 billion in total Mexican revenues--is readying to take over its anchor bottler in Mexico, Pepsi-Gemex, which produces about 70% of all Pepsi drinks sold here. On Jan. 1, 2003, PepsiCo will realize ownership in a trust holding controlling shares in Pepsi-Gemex, which is the second-largest Pepsi bottler outside of the United States. Analysts call the move a first step in loosening Coke's lock on the domestic market.

Cazares said the move will streamline decision-making, giving Pepsi-Gernex faster response time to market changes and allowing it to focus on just one PepsiCo-approved game plan for both daily operations and brand name strategies.

As part of the turnover, analysts also forecast a new more corporate-minded management team by early 2003 as Pepsi-Gemex ushers out a family-centered squad built around Mexican sugar magnate Enrique Molina.

The prospect of fresh air at the bottler should also give a boost to PepsiGemex stock, traded on both the Mexican and New York stock exchanges. Analysts feel new management--approved by PepsiCo executives in Purchase. New York-will lend greater transparency to the company's dealings with the market, particularly with minority shareholders, as well as bolster investor confidence.

"We believe PepsiCo's taking control toward the end of fourth quarter 2002 (signifies) a strong catalyst to push up the Pepsi stock beginning in 2002. wrote Jose Antonio Martinez, analyst at local brokerage Interacciones, in a report.

PepsiCo's deeper pockets and easier access to credit will also facilitate capital expenditures and acquisitions as Pepsi-Gemex seeks to consolidate remaining family-owned Pepsi bottlers and create a more solid front against Coca-Cola, analysts say.

New management could also help level out some of the volatility Pepsi-Gemex's stock could experience in 2002--a year when the company faces up to about US$150 million in debt maturities, Martinez said.

The heavy debt load might buffet the share, causing net debt to exceed cash flow in the year, said Martinez, who has a long-term buy recommendation on the locally traded stock. His price target for end-2002 is 13.50 pesos, about 30% higher than the stock's average January price of 10.22 pesos.

PEPSI GENERATION

But PepsiCo's new ownership in PepsiGemex isn't the only factor leading the brand forward. An aggressive advertising campaign has pop stars Britney Spears and Shakira working to make Mexico's young generation lifelong Pepsi drinkers. Meanwhile, a hard-nosed pricing strategy in 2001 saw Pepsi consistently underselling Coke, helping the No. 2 name make modest gains in market share,

analysts say.

Seeking to widen its market, Pepsi also rolled out new product lines in 2001 like Pepsi Limon, a cola drink aimed at cashing in on Mexicans' penchant for lime, and broadened its assortment of Power Punch non-fizz, fruit drinks to include mandarin, guayaba and strawberry flavors.

Pepsi has also been aggressive on the advertising and marketing fronts. Cazares said his company wants to create "brand-name equity" among Mexican young people through two main advertising "platforms": music, by producing the pop-and-rock, live-music TV show "Pepsi Chart," and soccer, by fielding the 110,000-participant Copa Pepsi youth tournament and sponsoring four first-division Mexican teams.

The aggressive marketing and pricing tactics are partly credited with helping raise Pepsi-Gemex's market share in soft drinks to 17% in late 2001 from 15% in 1999, according to Interacciones' Martinez.

But despite the aggressive moves and the recent modest boost in market share, Pepsi shares trade at steeper discounts compared with other Latin American bottlers. The lower valuation results partly from the company's still-low market share in Mexico but also reflects a poor relationship between minority shareholders and current board chairman Molina, who hasn't stressed dividend payments, analysts said.

Under PepsiCo, the bottler is expected to heed its minority shareholders more closely, and the market could reward the company by pushing Pepsi shares higher.

END OF AN ERA

Molina's anticipated exit symbolizes a watershed event for Pepsi-Gemex as the company takes on a stronger corporate identity and ceases being a mainly family-owned and family-controlled holding, analysts said.

"(Molina) wants to retire. His family's not interested in the business. It's a family-owned organization that's run its course," said Banorte analyst Marcela Martinez.

Molina's exit also could signal a sell-off of the board chairman's controlling shares later this year and in 2003, possibly putting a damper on upside potential associated with PepsiCo's taking of the reins, Santander's Rivero said.

Talk also has been that the bottler could sell its profitable purified water business, Electropura, valued at US$100 million, as it faces debt maturities.

But as the Molina era winds down, experts don't expect Pepsi-Gemex to make too many big splashes this year. PepsiCo's Cazares said the two companies are hoping for a very smooth transition.

Analysts also don't expect PepsiGemex to close any acquisitions this year although the company is in talks with two local bottlers in northern Mexico-the Ruffo family and the Ramirez family--to consolidate its presence in the area against competition from Coca-Cola bottler Arca.

"There have been talks with the Ruffo family and the Ramirez family, but no operation has been made concrete," Cazares said, adding PepsiCo itself remains interested in acquiring a Mexican juice business, even after negotiations with Jugos del Valle failed earlier this year.

But Molina and company may have to make other decisions this year on pricing. Mexican sugar prices could rise in the midterm after legislators in December levied a special 10% to 20% tax on soft drinks made with high-fructose corn syrup (HFCS), a rival sweetener. The tax could boost sugar demand as bottlers that used HFCS, such as some Coca-Cola bottlers, adopt all-sugar processing systems.

Though Pepsi already exclusively uses sugar and won't see a charge from reconfiguring processing systems, a potential sugar price hike could force the bottler to tinker with its pricing strategy.

Cazares, however, said that Pepsi only aims to raise prices in-line with inflation this year. He added that he expects Pepsi to post soft drink volume growth of about 4% in 2002--one percentage point above the expected industry average--with a similar increase in sales.

But Cazares also added that PepsiCo's takeover of Pepsi-Gemex signifies a long-term strategy--one not measured, perhaps, by year-on-year indicators, rather as part of the company's 65-year involvement in Mexico.

And despite being burned by Mexican financial crises, like the one in 1994-1995, Pepsi isn't flinching from exposing itself in Mexico. PepsiCo CEO Steven S. Reinemund recently announced company plans to invest about US$1.2 billion in its Mexico operations over 2001-2006.

"PepsiCo has a long-term commitment with Mexico," Cazares said.

The aggressive, US$1.2-billion investment plan appears to fit hand-in-hand with PepsiCo's aggressive outlook for the future.

"Today, we have an aggressive strategy. And it's almost a sure thing that once we have control, the aggressive strategy that we have today will increase. Our strategy is to continue to gain market share," said Cazares.

Robert Donnelly is a Mexico City-based freelance writer.