Krause Fund Research Spring 2015

Consumer Staples Group, Inc. (NYSE: DPS)

Recommendation: HOLD April 21, 2015 April Analysts Current Price $77.79 Di Yan Target Price $79.95 [email protected] Leslie Wille DPS Is Worth Waiting! [email protected] Yuqing Fang  Dr Pepper Snapple has stable revenue growth each year, [email protected] with an average increase of 2% from 2010-2014. Since the U.S. economy is healthy and experiencing an increasing demand in Company Overview the consumer staple sector due to the growing population nationwide, we expect a 1.27% increase in net sales in 2015. In , Inc. (NYSE: DPS) is a leading addition, due to volatile commodity prices in recent months, we integrated brand owner, manufacturer, and distributor of non- expect approximately a 1% decrease in the proportion of the cost alcoholic beverages in the United States, Canada, and Mexico. of goods sold in sales in 2015. It is headquartered in Plano, Texas. In 2008, Dr Pepper Snapple  Growth for beverage industry has been sluggish in recent was spun off from its parent company and years, thus we merely estimate a 1.4% continuing value growth started being publicly traded in the U.S. Dr Pepper Snapple has rate for Dr Pepper Snapple after 2019. three business segments including Beverage Concentrates,  Since consumers are increasingly concerned about health Packaged Beverages, and Latin America Beverages. The and wellness, they are changing their preferences towards much Packaged Beverages segment has always been the chief healthier drinks. The demand for carbonated soft drinks will revenue producer for the company, which created 71% of decrease as consumers have shifted towards non-carbonated revenues in 2014. beverages such as water, ready-to-drink teas, and sports drinks. Stock Performance Highlights Therefore, if Dr Pepper Snapple cannot effectively anticipate the changes in consumers’ preferences and then quickly develop Market Capitalization $14.85B new products in response, its sales could suffer. In addition, Share Outstanding 192.96M developing and launching new products can be risky and 52 Week Range $52.33 – $81.45 expensive, and some of its competitors may be better able to Beta Value 0.60 respond to these changes, either of which could negatively affect Average Daily Volume 1.03M its business and financial performance.i Key Statistics  As environmental issues become more of a concern, the effects that large amounts of plastics and other materials used for Book Value Per Share $11.89 packaged beverages have on it will harm the beverage industry. EPS (ttm) $3.56 Dividend Yield 2.50% 12-Month Stock Performance (S&P 500 in Red) Dividend Payout $1.92 Price/Earnings (ttm) 21.64 Price/Sales (ttm) 2.87 Price/Book (mrq) 12.57 Financial Ratios Return on Assets (ttm) 8.94% Return on Equity (ttm) 30.76% Operation Margin (ttm) 19.25% Current Ratio 1.17 Debt to Equity 1.1 Figuee1: Source: Yahoo! Finance

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After we analyzed Dr Pepper Snapple by integrating the U.S. economy, the beverage industry, and its company specific performance, we expect a fair value of $79.95 for Dr Pepper Snapple in 2015, which is very similar to the current stock price. Therefore, we recommend holding Dr Pepper Snapple. The U.S. economy is expected to grow and continue to be healthy in the short term. However, since the beverage market in the U.S. is already mature, the sluggish growth of the beverage industry in the U.S. slows down the growth of companies within it. Figure 3: Source: Federal Reserve Bank of St. Louisv Therefore, it is better for Dr Pepper Snapple to seek overseas opportunities, although there are risks associated with such Based on the projections of authority institutions, including the expansion like differences in currency rates and changes in International Monetary Fund, the European Commission, and the governmental policies. Although disposable income is expected Federal Reserve, the Real GDP in 2015 will increase vi to increase, consumer spending has still been soft in recent approximately 3.15%, and 3.06% in 2016. Furthermore, new months.ii Therefore, we suggest that investors can still wait and job openings will give more opportunities to people and boost see how Dr Pepper Snapple reacts to the risks it exposes and how the economy. However, the impact of the federal funds rate it creates its own strategic advantage over other companies. adjustment in 2015 on stocks, along with the economic slowdown in the Eurozone, will also slow down the growth of the U.S. GDP. In addition, the decrease the CCI in January and soft spending in February indicate that people prefer saving more than spending. Therefore, we predict that the Real GDP will

increase by 2.6%, as it did in the last quarter of 2014, within the next six months. We also estimate that the Real GDP will Gross Domestic Product increase approximately 3.0% in the next 2-3 years. Real Gross Domestic Product is a vital and commonly used determinant to measure the economic performance of a country. Unemployment Rate The Real GDP is defined as the nominal GDP adjusted by the We think it is an important indicator because unemployment inflation rate that reflects the market value of goods and services rates can reflect the well-being of an economy in a country. For measured annually.iii Since nearly two-thirds of GDP is driven example, during the 2007-2009 recession, the unemployment by individual’s consumption, it is an important indicator of the rate was remarkably high and reached 10% in 2009. consumer staples sector. Alternatively, when an economy stays healthy, it experiences a

low unemployment rate. According to the graph below by the Federal Reserve Bank of St. Louis, the U.S. Real GDP has historically remained in an upward As seen in the graph below by the Bureau of Labor Statistics, the trend except during the recessions. unemployment rate gradually recovered to a lower rate after the recession in 2008 and 2009.vii

Figure2: Source: Federal Reserve Bank of St. Louisiv Figure 4: Source: Federal Reserve Bank of St. Louisviii Below is a chart showing the percentage change of Real Gross Since 2010, the unemployment rate has continued to decrease by Domestic Product. As seen in the chart, the Real GDP increased an average of 0.1% each year. Additionally, the unemployment by 2.5% on average in 2014, with -2.1%, 4.6%, 5.0%, and 2.2% rate decreased to 5.5% by February this year and held steady at in quarters 1-4 respectively. 5.5% in March. Based on the projections of International

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Monetary Fund, European Commission, and the Federal Reserve, We believe the CPI for the consumer staples industry will the unemployment rate in 2015 will be approximately 5.6%, and continue to steadily increase by about 2% in the short term, and 5.4% in 2016. ix Referring to the news posted on the Board of by 2.2% in the next two-three years. We believe it will be very Governors of the Federal Reserve System, “labor market similar to the national expected inflation rate because there will conditions have improved further with strong job gains and a only be a small level of growth within the industry. Although an lower unemployment rate.” Hence, we predict that the increase in the minimum wage may cause the CPI to decrease to unemployment rate will probably not change a lot in the short some degree, it will likely be offset by increases in the price of term, it will only decrease by 2%, as compared to 5.8% in the consumer goods. xvi , xvii In conclusion, an increasing CPI will fourth quarter of 2014 since jobless people still need time to find cause consumers to have less confidence in the consumer staples work. In the long term, our group predicts that the industry because they will have less purchasing power. unemployment rate will remain low and stay around 5.5%.x Interest Rate We believe that the low unemployment rate will have positive impacts on consumer staple sectors. Lower unemployment rate The federal funds rate is the interest rate at which banks and can indicate an increase in purchasing power of customers, and other depository institutions lend money to each other. Increasing the federal funds rate will decrease the supply of thus promotes consumer spending. xviii money and increase short-term interest rates, and vice versa. Therefore, the federal funds rate can be seen as a benchmark for Consumer Price Index analyzing interest rates in financial markets. The federal funds The CPI is important for understanding the consumer staples rate has been at a low level of 0.25% for more than 4 years after industry because it reflects changes in price due to rising costs of the 2008 financial crisis. food, beverages, drugs, personal and household items, tobacco, and alcohol.xi The CPI has risen at a relatively steady rate for the last 10 years, due in part to a rise in food and beverage prices. The price of meat, grains, fruits and vegetables, and dairy products have increased in the last several years due to droughts, disease among animals, extremely cold weather, and a citrus greening disease in Florida. In general, the price of all foods and beverages using ingredients from these categories were affected by the calamities. This is due to the fact that the price of products not directly affected rose when more people started to turn to xii cheaper options, thusly causing them to go into higher demand. Figure 6: Source: Trading Economics | U.S. Bureau of Economic Analysis

Since the minimum wage has also increased substantially in the According to the data retrieved in Brankrate (n.d.), the prime rate last ten years, prices within the beverage industry have increased has been 3.25% for a year. Therefore, we believe that within the because the average American can afford to pay higher prices for next 6 months, the prime loan rate will remain unchanged or xiii their drinks. change very little until the federal funds rate is adjusted to some extent. We are more likely to expect the interest rate at the end of Below is a graph representing the steady rise in the CPI from June 2015 to be 3.20%-3.30%. xix Thus, companies in the xiv 1990-2014. consumer staples sector still can save a lot in cost of debt, and this will give rise to a good stock performance within 6 months. This is due to the fact that a lower cost of debt will result in lower interest expenses and more free cash flows to raise investors’ estimate for the company’s stock price.

According to the long-term forecast from Mortgage-X, the prime loan interest rate will increase to approximately 4.00% at the end of 2015. We expect the interest rate to achieve at least 4.75% in the next 2-3 years.xx

Demographics The population in America is expected to increase by another

Figure 5: Source: Federal Reserve Bank of St. Louis 100 million people by 2050. The number of people aged 65 and older are expected to increase from 13%-20% by the middle of CPI increased 2.04% last year and 1.93% on average in the last the century, but the working class is estimated to increase by three years. xv So, the inflation rate is steadily increasing. 42%. Birth rates are also expected to escalate causing a small population bubble. This is because the children of the youngest baby boomers will begin to have children of their own, and the

3 grandchildren of the early baby boomers will begin to have babies as well. Birth rates in the U.S. have been higher in the last decade than they have in the last 45 years.xxi

Below is a chart representing expected population growth in the United States between 2010 and 2050.xxii

Figure 8: Source: Fidelity, “Consumer Staples”

Figure 7: Source: The American Century Industry Overview Greater amounts of consumer goods, including staple items such The non-alcoholic beverage industry in the consumer staples beverages, will need to be produced to support such large sector covers eight main product lines: carbonated soft drinks, population growth. This will cause the consumer staples industry sports beverages, bottled water, energy drinks, fruit drinks, to grow, but it will be at a very gradual rate as the population value-added water, ready-to-drink tea, ready-to-drink coffee.xxvi expands throughout the next 35 years.xxiiiWe expect the industry to grow by approximately 1.5-2% in the next 2-3 years due the population boom and the rise in Real GDP.

Capital Market Outlook The market outlook for the beverage industry is positive. Real GDP is expected to increase by 3% in the short term, giving rise to a healthier economy. Unemployment is expected to decrease Figure 9: Source: Beverage Industry Analysis 2014 by .2%, which will also give a boost to consumer staples industries and increase purchasing power. CPI is anticipated to Major players, including Dr Pepper Snapple, Coca-, increase by 2%, and interest rates will remain low. We believe PepsiCo, Monster, and National Beverage, in this mature that the positive changes in Real GDP and unemployment rates industry compete with each other intensely. However, the will outweigh the effects of a rising CPI and low interest rates on beverage industry is quite a defensive industry that it is not the industry. The population is also expected to grow sensitive to the changes in economic and financial environment. considerably in the next 20 years, which will raise demand for Companies in this industry create revenues simply by staple items.xxiv For these reasons, we estimate that the beverage manufacturing beverages, though some companies, like Monster, industry will grow by approximately 1.4% in the next 5 years. will outsource their manufacturing process and earn the margins We believe it will perform better in 5 years than in the next year from such. because an increase in population and employment rates will take time. Industry Trend and Recent Developments Based on the Beverage Industry Analysis in 2014, people tend to The table below demonstrates how sectors within the consumer choose more healthy drinks. For example, the consumption of staples industry have performed relative to each other in the S&P energy drinks, soft drinks, and high-caloric coffee has been 500 in the last 5 years. In general, those that have performed the falling, while the price of bottled water has remained best are food and staples retailing, tobacco, beverages, and food xxvii xxv competitive. According to respondents of the beverage products. industry’s annual New Product Development Outlook survey, 51% of companies plan to launch new products in 2015. In addition, “high protein” and “natural” are most likely to be the latest trends for 2015.xxviii Another trend is a shift in consumers’ preference towards non-carbonated beverages like ready-to drink tea and coffee and bottled water.xxix

The most recent trends in the beverage industry indicate a preference change of people towards healthier beverages, which

4 is a positive sign for the whole consumer staple industries since since it has already been a leader of flavored CSD beverage healthier beverages are usually more expensive than carbonated markets in the U.S. In addition, Dr Pepper Snapple will focus to soft drinks. However, since people are more concerned about grow its brands by continuously providing new solutions to meet environmental issues, using more eco-friendly bottles and cans consumers' changing preferences and needs. Its solutions include will be a future trend in the beverage industry. new and reformulated products, improved packaging design, and pricing and enhanced availability. xxxix According to Beverage Competitive Landscape Industry Magazine, Dr Pepper Snapple announced a number of new products for 2015, including Snapple Whoa-Conut, Snapple The beverage industry within the U.S. is somewhat mature, and Straight Up, Snapple Lady LiberTea, and Mott’s Tropical Ba- has three major players, the Coca-Cola Company, PepsiCo Inc., Na-Na. About 54% of the company’s innovation pipeline and Dr. Pepper Snapple Group. The Coca-Cola owns focuses on health and wellness products across the non- approximately 29.5% of the soda market within the U.S., while carbonated as well as carbonated beverage categories. xl PepsiCo owns an estimated 20.3%, and Dr Pepper Snapple However, people are becoming more concerned about the Group controls 9.9%.xxx Each has reached economies of scale environment in general. The effects that large amounts of and which makes it difficult for new entrants to come into the plastics and other materials used for packaged beverages have on market. The main threat of new entrants exists overseas, where the environment will harm the beverage industry. xli there is expected to be a large amount of growth in the industry in the long term.xxxi Catalysts for Growth/Change Growth in store brands in the beverage industry has remained Domestic Market: The U.S. population has grown by0.73% in stagnant in the last 2-3 years because they have a hard time the last 3 years. xlii This will raise the demand for beverages, entering the market due to market domination by the major which will keep it healthy.xliii players in the industry. This is true in the beverage industry because PepsiCo Inc. and the Coca-Cola Company have a large Environmental Issues: Environmental issues are a concern amount of global sales and spend a huge amount of time on for the beverages industry since some materials used to marketing and innovation.xxxii In addition, the average consumer package beverages take decades to degrade and pollute the also is more willing to spend more on staple items, like soil. However, the increased use of green materials for beverages, as the economy recovers from the recession of 2008 packaged beverages, such as recycled bottles and boxes, can because they have a greater amount of purchasing power. So help mitigate these environmental concerns.xliv they are more likely to trade up from store brand products to brand name products. xxxiii For these reasons, we expect Dr Pepper Snapple Group sales to increase by 1.27%-1.81% in the next two years.

Companies within the beverages industry are expected to achieve higher product margins and will therefore earn higher profits in Business Description xxxiv the short term as the price of beverages rise due to inflation. Although commodity costs have been volatile, net profits are  Business Segments and Brand Portfolioxlv still expected to increase for major companies in the industry due to their ability to hedge. xxxv This is demonstrated in the Dr Pepper Snapple forecasted income statement below; we expect Dr Pepper operates in three Snapple Group’s net earnings to increase by 0.83 % on average, business segments. over the next 5 years. The Packaged Beverages segment Although the market for soft drinks is expected to decrease in the produced most of next five years because of rising health awareness among the company’s consumers, each of major manufacturers’ sales are expected to revenues in 2014. remain high due to refreshed product lines and an increase in “all Figure 9: Source: NetAdvantage natural products.xxxvi So, PepsiCo Inc., the Coca-Cola Company, and Dr. Pepper Snapple Group, will likely continue to be major Beverage Concentrates: The major products in this segment are players within the industry.xxxvii carbonated soft drinks (CSDs), which owned 38.8% market share in the U.S. Although PepsiCo and Coca-Cola are the two Key Investment Positives and Negatives largest competitors for Dr Pepper Snapple in the packaged beverages segment, they are its two largest customers in the The positive news for the beverage market is that the population beverage concentrates segment. They created 27% and 21% of is expanding both nationally and globally. Hence, there will be Dr Pepper Snapple’s segment revenues in 2014 respectively. xxxviii an increased demand for beverages worldwide. Dr Pepper Snapple will target fast growing population segments, such as Packaged Beverages: Dr Pepper Snapple manufactures and the Hispanic community in the U.S., to drive its market growth distributes not only its own brands, but also third-party owned

5 brands and some private label beverages in the U.S. and Canada. stores, vending machines, and other independent retail stores, to Wal-Mart was the largest customer, which produced 16% of net improve awareness and enlarge the consumer basis. sales in this segment in 2014.  Life Cycle

Latin America Beverages: In 2014, this segment created net According to the financial data retrieved from NetAdvantage and revenues of $532 million, 91% of which was from Mexican Dr Pepper Snapple’s 10-K report, we noticed that its investing operations. Carbonated mineral water, vegetable juice, and cash flow and financing cash flow were l negative from 2010 to grapefruit flavored CSDs were the most popular products in this 2014, which indicated that cash flow was used to update capitals segment. and repay long-term debt. Furthermore, both net sales and net income fluctuated over a narrow range within 5 years. Therefore, Dr Pepper Snapple offers flavored carbonated soft drinks (CSDs) we believe that Dr Pepper Snapple is currently in the maturity and non-carbonated beverages (NCBs), including ready-to-drink stage.xlviii teas, juices, juice drinks, water, and mixers. The company sells its flavored CSD products primarily under the brands Dr Pepper, , 7UP, A&W, , soda, Schweppes, RC Cola, and , and NCB products primarily under the , Snapple, Mott's, and brands. Kraft’s business is mainly based on collaboration with bottlers, distributors, and retailers.xlvi Figure 11: Source: Dr Pepper Snapple 10-K Reports

Financial Summary Dr Pepper Snapple had stably increasing revenues from 2011 to 2013 and achieved significant progress in revenues during 2014. Dr Pepper Snapple also realized 12.66% increase in its net income, compared with an average increase of 1.01% in 2013 and 2012. The decent growth rates of revenues and net income as well as EPS probably can be attributed to the company’s emphasis on financial leverage. Dr Pepper Snapple held more long-term debt in 2014 than it did in the previous three years; however, its annual capital expenditures have been decreasing year by year. Besides, Dr Pepper Snapple’s dividend payout also Figure 10: Source: Dr Pepper Snapple 2014 10-K has been going up since 2011, which is favored by investors.

Overall, Dr Pepper Snapple’s financial performance is  Corporate Strategyxlvii satisfactory in 2014 mainly because of its significant rise in sales Enhancement of leading brands: Dr Pepper Snapple will and profitability, and its investor preferred dividend payout continue to invest more in leading products, which created the policy. most revenues and built reputation for the company, to upgrade the market awareness and boost company profits. Dr Pepper Snapple will mainly focus on innovating a new marketing strategy, advancing distribution systems, and going along with consumer trends to enhance of its leading brands.

Rapid Continuous Improvement (RCI) initiative: In 2011, Dr Pepper Snapple launched the Rapid Continuous Improvement (RCI) initiative, which utilized the Lean and Six Sigma methods to improvement operation efficiency. RCI has improved the company’s cash productivity by millions of dollars and has lowered its capital expenditure requirements as well. Figure 12: Source: Yahoo! Finance Route-to-Market: Investment in Information Technology allows Dr Pepper Snapple to chase the most recent market data and Analysis of Recent Earnings Releases remain the top choice for its third-party partners, including Dr Pepper Snapple Group reported that EPS were $3.59 in 2014. bottling and delivering companies. Compared with last year, EPS increased 17% due to a decrease

in stock shares. Net sales increased 3% in the fourth quarter and Increase Presence in Key Channels: Dr Pepper Snapple aims to 2% in the year. In addition, net income increased by almost 13% increase its supplies in key channels, including convenience because of the higher net sales, savings on cost of sales and savings on pension plan withdrawals. The main products that

6 contribute to the sales of Dr Pepper Snapple are beverage concentrates, packaged beverages, and Latin America beverages. Among these products, packaged beverages are sold the most annually. However, Latin America beverages achieved the highest sales volume increase and the highest sales percentage increase.xlix

On December 31, 2015, Dr Pepper Snapple estimated that net sales could be up approximately 1% as compared to the year ending December 31, 2014. Commodity costs for the year ending December 31, 2015, could be down approximately 1% on a constant volume/mix basis as compared to the year ending December 31, 2014. l Figure 13: Source: MarketLine Advantage Our group forecasts that the net sales of Dr Pepper Snapple in 2015 will increase by 1.27% compared to the year 2014. Since In 2013, 88% of Dr Pepper Snapple Group’s net sales were from commodity prices are expected to have a high volatility in 2015 the U.S., 8% were from Mexico, and 4% were from Canada. 49% of Dr Pepper Snapple’s total products were distributed and and Dr Pepper Snapple also faces an increase in logistics and lvi employee costs from third-party carriers, we expect a lower cost sold in the U.S. in 2013. of goods sold for Dr Pepper Snapple in 2015 with higher selling, general, and administration costs.li Due to the favorable impact Dr Pepper Snapple sells to two main types of customers, bottlers of fair value hedges and the repayment of 6.12% senior and distributors or retailers. Their largest customer in retail is unsecured notes in May 2013, interest expense decreased Wal-Mart, which accounts for about 12% of their net sales. lviiPepsiCo also had 12% of its sales from Wal-Mart in 2014, and approximately 11% in 2014, compared with the year prior. lviii , lix Therefore, our group expects that the interest expense will the Coca-Cola Company had 15%. Dr Pepper Snapple remain low in 2015. Group is also working to strengthen brand awareness form product extensions to encompass new trends emerging within the beverages industry, such as drinks with less sugar and lipids. lxIn Products and Markets order to address changing consumers’ needs, they often develop Dr Pepper Snapple produces non-alcoholic beverages including shopper programs, reformulate their products, and change their various carbonated soft drinks, , bottled water, juice, packaging designs. lxi tea, , mixes, energy drinks, , and chocolate drinks. Its largest market segment is carbonated soft drinks with Products and Distribution lii a 20.7% market share. Dr Pepper Snapple sells carbonated soft drinks ("CSDs") and non-carbonated beverages ("NCBs") not only in the U.S, but also As can be seen in the chart above, most of Dr Pepper Snapple’s in the Mexico, Canada and the Caribbean. Dr Pepper Snapple revenue is generated from packaged beverages, and sales within distributes different products to accommodate and satisfy each of liii the U.S. The beverage concentrates segment is namely the four markets. comprised of beverages with lots of sweeteners, artificial syrups, and flavorings. The Latin America segment includes carbonated Manufacturing process and distribution: Dr Pepper Snapple mineral water, fruit and vegetable flavored carbonated soft operates 20 manufacturing facilities across the U.S. and drinks, juice, and bottled water. The packaged beverage segment Mexico. They produce 90% of their products and manufacture includes any products that do not fall into either of these beverages in a variety of packaging materials while the categories, and is namely composed of carbonated soft drinks, remaining 10% of its products are manufactured by third parties. along with some non-carbonated beverages such as juice. Dr Pepper Snapple also has a very effective distribution network since 113 principal distribution centers and warehouses are We expect packaged beverage revenues to grow 3.73% in the geographically dispersed to ensure products meet consumer next 5 years due to the steady amount of growth expected for the demand. lxii beverages industry. We do not anticipate it to be as high as the industry however, because consumers are becoming increasingly Raw materials costs and suppliers: Dr Pepper Snapple primarily conscious of the environment and unnecessary amounts of uses aluminum cans and ends, glass bottles, PET bottles and packaging is unfavorable. Revenue from the beverage caps, paper products, sweeteners, juice, fruit, water and other concentrates segment is expected to decrease by 1.03% by 2019. ingredients to make products. The cost of such raw materials can This is because demand for sugary drinks is decreasing due to a fluctuate substantially. In addition, the company is significantly liv rising level of health awareness among consumers. Latin impacted by the changes in fuel costs due to the large truck fleet America beverage revenues are estimated to increase by 9.10% operated in its distribution businesses. Dr Pepper Snapple has by 2019 because most of the products in this segment are contracts with a relatively small number of suppliers. So, it keeps healthier than in the other segments, and demand for them is the use of commodities forward contracts and supplier pricing lv expected to rise due to consumers’ rising health awareness. agreements to mitigate the exposure to volatility in the prices of

7 certain commodities and hedge the risk of adverse movements in commodity prices. lxiii Due to the impact of a 10% change (up or down) in market prices for these commodities where the risk of adverse movements has not been hedged in December 2014, Dr Pepper Snapple estimates there to be an increase or decrease of approximately $21 million to their income from operations for Figure 15: Source: Forbes lxiv the year ending December 31, 2015. In addition to financial performance, we noticed that Dr Pepper Snapple did have a decent stock performance the last year. Competition Below is the graph of its one-year stock price change. Before Dr Pepper Snapple is primarily involved in the non-alcoholic Coca-Cola announced the purchase of a 17% stake of Monster, lxvii beverages industry, which is dominated by two giants – Coca- which seemed like a win-win transaction for both companies, Cola and PepsiCo, which occupy almost 75% market share.lxv Dr Dr Pepper Snapple was still the company that maintained the Pepper Snapple ranked third in the industry, and other key greatest percentage increase in stock price. Overall, under the beverage producers, including Monster Beverage and National pressure of two giants, Coca-Cola and PepsiCo, and the dark Beverage, also play a crucial role in making this industry highly horse Monster, Dr Pepper Snapple actually performed competitive by inventing new ingredients and flavors and satisfactorily in the last 12 months. creating innovative marketing ideas continuously.

The table below shows financial ratios and comparative values of the leading companies within the beverage industry compared to Dr Pepper Snapple. Dr Pepper Snapple has the lowest P/E ratio among its competitors, implying that Dr Pepper Snapple might be less attractive to investors. Monster has the highest P/E ratio compared with other companies. Even PepsiCo and Coca-Cola, both of which already have very large market capitalizations and are the most stable and mature companies in this industry, have lower P/E ratios than Monster. Dr Pepper Snapple also has a moderate leverage rate (D/E), moderate ROE, and low current Figure 16: Source: Yahoo! Finance ratio compared with its competitors. Although its EPS ratio is the second highest among its competitors, Dr Pepper Snapple’s high Other Topics EPS might be attributed to the repurchase of stock shares, which reduces its outstanding shares compared to its competitors. Since 12% of Dr Pepper Snapple Group’s sales are in Canada and Mexico, the value of the U.S. dollar relative to each country’s respective currency affects Dr Pepper Snapple’s earnings.lxviii Currently the value of the U.S. dollar is greater than both the Canadian dollar and the peso, and it is expected to remain strong. lxix Unless the value of the Canadian dollar and the peso increase relative to the U.S dollar, Dr Pepper Snapple may experience decreased revenue in the short term.

Dr Pepper Snapple owns approximately 2,300 trademarks in the Figure 14: Source: Yahoo! Finance U.S., Mexico, and Canada, with trademarks for most of its brands in the U.S. In many other countries, trademarks to some Approximately 64% and 17% of Coca-Cola and PepsiCo’s of their leading brands are owned by other companies or valuation, respectively, comes from carbonated soft drinks competitors such as Coca-Cola.lxx (CSDs), and 80% of Dr Pepper’s net volume sales are CSDs. In addition, the domestic market is also a major contributor to those Catalysts for growth/change three companies’ net sales. Therefore, the recent trend in the deceasing demand for soft drinks in the U.S. will be a risk for all Since environmental issues have become more important in three companies. The table below shows that the volume and unit recent years, we expect Dr Pepper Snapple to focus more on price changed for the 3 largest companies in the carbonated soft corporate social responsibility, which includes caring more for . Dr Pepper has not been as aggressive as its peers the environment, in 2015. in terms of price increases. Thus, the total dollar sales of Dr Pepper Snapple have grown by 0.7%.lxvi Emerging markets are another business opportunity for Dr Pepper Snapple since DPS does not have any business in emerging markets. However, there are also risks associated with such expansion like differences in currency rates and changes in governmental policies.

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new policies in Mexico called for an additional peso for every liter of carbonated soft drinks sold due to rising concerns about S.W.O.T. Analysis lxxvii obesity and health care costs. Other federal, state, or city  Strengths governments could impose regulations such as these in the future, which could lower Dr. Pepper Snapple’s annual earnings Strong brand portfolio: Dr Pepper Snapple covers a wide range considerably. of non-alcoholic beverage brands. It is the #1 flavored CSD company in the U.S., and is the only major beverage concentrate Dr. Pepper Snapple relies on a few large retailers, such as Wal- company with year-over-year market share growth in the CSD Mart, for a hefty portion of its business.lxxviii This poses a threat market in the last five years. Additionally, Dr Pepper, which is to Dr. Pepper Snapple because if an agreement ended with any of the company’s largest brand, is the second favorite flavored CSD these companies, their sales would decrease dramatically. Since in the U.S. Dr Pepper Snapple is also continuously launching several of these retailers are so powerful, they also can resist innovations and brand extensions for almost 83% of its efforts made by Dr. Pepper Snapple to increase prices. lxxi brands.

Broad geographic manufacturing and distribution coverage: As of December 31, 2013, Dr Pepper Snapple had 18 manufacturing facilities and 113 principal distribution centers and warehouse facilities in the U.S., as well as two manufacturing facilities and eight principal distribution centers and warehouse facilities in We used different valuation models, including the Discounted Mexico. In addition, Dr Pepper Snapple’s warehouses are Cash Flow/ Economic Profit model, Dividend Discount model generally located at or near bottling plants and geographically and Relative Valuation model to estimate the intrinsic value of dispersed to ensure the products are available to meet consumer Dr Pepper Snapple. The following table shows our calculated demand.lxxii results:

Strong operating margins and stable cash flows: The breadth of Dr Pepper Snapple’s brand portfolio has enabled it to generate strong operating margins, which have delivered stable cash flows. These cash flows enable it to consider a variety of alternatives, such as investing in business, repurchasing shares of common stock, paying dividends to stockholders and reducing The DCF and DDM yield very similar results, but we believe debt.lxxiii that the DCF is our best model since it contains most of our assumptions as compared to the other models. The value  Weaknesses calculated from the Relative P/E model rests upon Dr Pepper Limited worldwide market distribution: Compared to its main Snapple’s major competitors in the beverage industry. Since only competitors, Dr Pepper Snapple’s targeted areas seem somewhat four peers are comparable to Dr Pepper Snapple, which is a narrow; it only acquired the majority of its revenue from narrow set, we do not think that Relative P/E model is our best Northern America, including the U.S., Canada, and Mexico.lxxiv model.

Consumers’ preference toward healthier food: Nowadays, more Revenue Decomposition and more people are aware of the harm that is caused by having too many soft drinks and drinks with high calories. However, Dr DPS is decomposed into three main segments, including Pepper Snapple’s revenue streams are mainly from beverage concentrates, packaged beverages, and Latin America manufacturing and distributing soft drinks or other high-sugar beverages. Since the whole U.S. economy is healthy and the beverages.lxxv whole beverage industry is still growing at a very slow rate, our group expects a total 1.27% increase in the net sales of Dr  Opportunities Pepper Snapple.

Although the beverages industry in the U.S. is mature, there is  Beverage concentration: According to the analysis from the room for the industry to grow in foreign, emerging markets such IBIS World Report for Dr Pepper Snapple, beverage as China and Latin America.lxxviDr. Pepper Snapple already has concentrates are expected to decline at an annual rate of operations in Latin America, as well as in some other countries, 0.05% in the next five years. This is mainly because the which could put it ahead of smaller competitors in the long term. demand for sugary juices is declining due to changing For this reason, we predict that DPS’s percentage of sales due to consumer preferences, and most of the beverage beverages in Latin America will increase by 15.6% this year. concentrates Dr Pepper Snapple Group produces are for lxxix CSDs, followed by juice. Therefore, our group mostly  Threats agreed with what the IBIS World Report estimates. We

One major threat, which poses itself against Dr. Pepper Snapple, expect that the beverage concentrates will decrease is governmental regulations throughout North America. In 2013, approximately 0.05% in the next five years.

9

 Packaged beverages: The packaged beverages segment is and the risk-free rate is calculated by using the current yield to the main segment of Dr Pepper Snapple since almost 71% of maturity (YTM) of the 30-year U.S. Treasury bond. The market sales are from this segment. In 2015, our group forecasts its risk premium is 4.62%, using the U.S. historical geometric net sales will decrease by 0.1% due to sluggish demand in average. Based on the CAPM, we obtained the cost of equity at the CSD space.lxxxIn addition, since people tend to care more 5.91%. Pre-tax cost of debt of DPS is 4.25% by using the YTM about environment issues, they prefer to choose more eco- of DPS’s 23-year bond. After a 34.58% marginal tax rate, after- friendly products, which will have a negative influence on tax cost of debt is calculated at 2.78%. Since DPS does not issue packaged beverages. any preferred shares, no calculation regarding preferred stock is  Latin America beverages: Since 2013, the Latin America in the WACC. After considering the market value of equity and beverages segment has been growing rapidly, by 11.06% in debt (including the PV of operating leases), we obtained the final 2013 and 15.15% in 2014. The Latin America beverages weighted average cost of capital of 5.43%. The WACC is segment participates mainly in the carbonated mineral water, relatively low in our model because of the low risk-free rate, low flavored CSD, bottled water and vegetable juice categories, after-tax debt rate, and low beta. with particular strength in carbonated mineral water, vegetable juice and grapefruit flavored CSDs categories. Dividend Discount Model (DDM) Due to the changing preference of people towards healthier By using the Dividend Discount Model, we got the intrinsic drinks, and because the Latin America beverages segment value of Dr Pepper Snapple at $76.01, adjusted to $76.81 on sells much healthier beverage products compared with the April 21, 2015. Our result was based on the assumptions of CV other two segments, our group forecasted a 15.5% growth in growth rate at 1.40% and CV ROE at 32%. Dr Pepper Snapple is this segment in 2015, with a lower growth rate in later years. currently involved in a highly competitive industry. Therefore, as a company that is defensive to market changes, we expect the Cost of Goods Sold EPS growth rate to be only 1.4%. Dr Pepper Snapple has been Since people are changing preferences towards healthier drinks, paying out dividends for several years, which provides us with the volume of soft drinks of DPS is decreasing, which lowers the consolidated historical evidence for future forecasting. However, cost of goods sold. Since the price of the majority of Dr Pepper it is still difficult for us to have full control of the dividend Snapple’s input costs are expected to decline in 2015, we expect payout policy because high dividends do not always significantly a decrease in cost of good sold of Dr Pepper Snapple. lxxxi indicate a satisfactory current performance or bright future.

Selling, General, and Administrative Expense Relative Price to Earnings (P/E) Model For the year ended December 31, 2014, selling, general and The relative P/E does not provide a good estimate of the intrinsic administrative ("SG&A") expenses increased $62 million value of Dr Pepper Snapple Group. It provides a price of $83.72, compared to the prior year. This was due to higher logistics costs which is close to the range of $52.00-$82.00, which we believe is from third-party carriers and increased employee costs from the appropriate price for the stock. We believe it is a poor performance-based incentive compensation. In addition, based measure of the intrinsic value of Dr Pepper Snapple Group on the historical data from Dr Pepper Snapple’s financial however because there are very few major companies within the documents, we found that the average spending on SG&A was beverage industry. So, if one company’s earnings change, the around 38% of net sales from 2011-2014. Therefore, our group estimate given by the model will change easily. estimates that the selling, general, and administration cost will increase by 0.17% compared to that of 2014, which will equate This model also gave a P/E of 21.1, which we believe is low to 38.3% of the net sales in 2015. relative to Dr Pepper Snapple Group’s peers (see figure 11). It is low compared to its peers because it has a low expected level of growth. The P/E value from the model is almost the Depreciation same as the value we calculated in our DDM model however, of We used the historical average 10.2% depreciation rate to 21.21. If the P/E were higher, it would cause the stock price in determine the future depreciation amount. In addition, forecasted the model to increase, and vice versa. depreciation is used to estimate the net property, plant and equipment on the balance sheet. DCF /EP Models We believe this model provides the best estimate of Dr Pepper Weighted Average Cost of Capital Data Change Snapple Group’s intrinsic value because it incorporates most of our expectations about the future growth of DPS, as well as our The weighted average cost of capital (WACC) is the rate that a estimations for the WACC and the current state of the economy. company is expected to pay on average to all its security holders We estimated CV growth of NOPLAT to be approximately 1.4% to finance its assets.lxxxii Dr Pepper Snapple’s weighted average because growth in the beverage industry is expected to be cost of capital is calculated at 5.43%. smaller than growth in the foods industry.lxxxiii This is mainly because the market is so heavily dominated by major players, We applied the Capital Asset Pricing Model (CAPM) to which makes it hard for the industry to grow significantly. Real calculate the cost of equity. DPS has a relatively low beta of 0.73

10

GDP also is only expected to increase by 3.15% in 2015, so the CV growth of NOPLAT had to be less than that. Risk Free & CV ROIC

We also believe this model gives a slightly better estimate of Dr Pepper Snapple Group’s intrinsic value than the DDM because we felt we had more control over the assumptions used. We felt more comfortable with our CV growth of NOPLAT than with our CV growth of EPS because more of our own assumptions and forecasts were used to calculate NOPLAT. If we had estimated the CV growth of NOPLAT to be 2% instead of 1.4%, the intrinsic value in the DCF would have risen by 15.16%. If we had estimated it to be 1%, the intrinsic value would have decreased by 7.8%. Continuing value of return on invested capital is calculated by the NOPLAT divided by the beginning invested capital. It is a Finally, we believe the DCF is a better estimate than the relative critical assumption in calculating DCF model. In addition, the P/E model because the relative P/E model considers the average risk-free rate is used in the WACC calculation. Therefore, we earnings per share of other companies within the industry. Since tested those two variables to see how the targeted DCF price there are only a few major players within the beverages industry, would change. Based on the sensitivity analysis, the change of we feel that this is not as accurate of an estimate because the the risk-free rate has more influence on the change of the price results can easily change if one company’s earnings change. while continuing value of return on invested capital has subtle influence on the change of price. When ROIC increases by 0.5%, targeted price grows by $0.10. However, when the risk-free rate changes merely by 0.05%, the price changes around $1.00, which is 10 times the price change compared with what resulted from the change in ROIC. Dividend Discount: Our group created five sensitivity analysis tables in order to better understand how key assumption changes will influence the final results of intrinsic value in our models. Cost of Equity & After-Tax Cost of Debt Since we believe DCF model gives us a better intrinsic value of Dr Pepper Snapple, we tested the adjusted price in DCF models.

CV Growth of NOPLAT & Beta

Cost of equity and after-tax cost of debt are both important to test since it is calculated in the WACC. After running the test, we found that both elements have great impacts on the change of the adjusted price. However, the price fluctuates more when the cost of equity changes and the after-tax cost of debt is held The first sensitivity analysis table created is to test the impact of constant. Instead, the price changes less when the cost of equity continuing value growth of NOPLAT and beta on price. Beta is held constant. measures a stock's volatility, the degree to which its price fluctuates in relation to the market.lxxxiv Beta is also a critical variable that influences the cost of equity and thus influences the SGA/Sales & COGS/Sales cost of capital. Continuing value growth of NOPLAT is another important factor to test since continuing value growth of NOPLAT indicates the future growth rate of Dr Pepper Snapple. According to our test result, an increase in beta will lower the price while an increase in continuing value growth of NOPLAT will raise the stock price. When the beta increases from 0.73- 0.74, which is 1.4% increase, the tested price decreased by approximately $1. When continuing value growth of NOPLAT changes by 0.02%, the price fluctuates by $0.32-$0.36. Since the continuing value growth of NOPLAT has already been expected to be very low for Dr Pepper Snapple, it will not Our group tested two vital assumptions in the operating variables, greatly influence the tested stock price. SGA/Sales and COGS/Sales. The proportion of cost of goods

11 sold and selling, general and administration in sales is crucial to test because those two assumptions can influence the NI income greatly. When both of these costs increase by 0.3%, price changes by $1.40-$1.60. The higher the proportion of those costs, the lower the price will be. Both of the operating variables have great impact on the final stock price. ?? CV Growth of NOPLAT & Capital Expenditure

Capital expenditures are essential to every company. We mixed the structural assumption, which is the continuing value growth of NOPLAT, and an operating assumption to test the price change of Dr Pepper Snapple. Compared with the continuing value growth of NOPLAT, capital expenditures have less influence on the tested price. When capital expenditures increase to $180 million, which is a 0.058% increase, price changes only by $0.20. Alternatively, when the continuing value growth of NOPLAT changes by 0.02%, price changes by $0.30-$0.40.

12

Important Disclaimer

This report was created by students enrolled in the Security Analysis (6F:112) class at the University of Iowa. The report was originally created to offer an internal investment recommendation for the University of Iowa Krause Fund and its advisory board. The report also provides potential employers and other interested parties an example of the students’ skills, knowledge and abilities. Members of the Krause Fund are not registered investment advisors, brokers or officially licensed financial professionals. The investment advice contained in this report does not represent an offer or solicitation to buy or sell any of the securities mentioned. Unless otherwise noted, facts and figures included in this report are from publicly available sources. This report is not a complete compilation of data, and its accuracy is not guaranteed. From time to time, the University of Iowa, its faculty, staff, students, or the Krause Fund may hold a financial interest in the companies mentioned in this report.

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10kx123113.htm#s805A81D3A8762FDE5211EBF5C5DADD83, lxxi United States Securities and Exchange Commission, “Dr accessed Feb. 15, 2015. Pepper Snapple Group, Inc. Form 10-K,” page 4 &5, lxi Statista, “Market share of leading carbonated soft drink http://www.sec.gov/Archives/edgar/data/1418135/00014181351 companies in the United States from 2004 to 2014,” 4000008/dps- http://www.statista.com/statistics/225464/market-share-of- 10kx123113.htm#s805A81D3A8762FDE5211EBF5C5DADD83 leading-soft-drink-companies-in-the-us-since-2004/, accessed , accessed Feb. 15, 2015. Feb. 15, 2015. lxxii United States Securities and Exchange Commission, “Dr lxii Dr Pepper Snapple group, Inc. Manufacturing, Warehousing Pepper Snapple Group, Inc. 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Feb. 15, 2015. lxxv Adam, “Dr Pepper Snapple Group SWOT Analysis,” Nov. 15, lxvi Trefis Team, “Earnings Round-Up: Coca-Cola, PepsiCo And 2012, Dr Pepper Snapple”, Forbes, Feb.20, 2015, http://www.freeswotanalysis.com/soft_drink_and_beverage/511- http://www.forbes.com/sites/greatspeculations/2015/02/20/earni dr-pepper-snapple-group-swot-analysis.html, accessed Feb. 15, ngs-round-up-coca-cola--and-dr-pepper-snapple/, 2015. accessed Apr. 20, 2015 lxxvi Dr Pepper Snapple Group, Inc. Form 10-K,” pgs.47, lxvii David Gelles, “Coke to Buy Stake in Monster Beverage for http://www.sec.gov/Archives/edgar/data/1418135/00014181351 $2.15 Billion”, The New York Times, August 14, 2014, 4000008/dps- http://dealbook.nytimes.com/2014/08/14/coke-to-buy-stake-in- 10kx123113.htm#s805A81D3A8762FDE5211EBF5C5DADD83, monster-beverage-for-2-15-billion/?_r=0, accessed Feb. 15, 2015. accessed Feb. 15, 2015. lxviii Dr Pepper Snapple Group, Inc. Form 10-K,” pgs.47, lxxvi Statista, “Market share of leading carbonated soft drink http://www.sec.gov/Archives/edgar/data/1418135/00014181351 companies in the United States from 2004 to 2014,” 4000008/dps- http://www.statista.com/statistics/225464/market-share-of- 10kx123113.htm#s805A81D3A8762FDE5211EBF5C5DADD83, leading-soft-drink-companies-in-the-us-since-2004/, accessed accessed Feb. 15, 2015. Feb. 15, 2015. lxviii Statista, “Market share of leading carbonated soft drink lxxvii Dr Pepper Snapple Group, Inc. Form 10-K,” pgs.47, companies in the United States from 2004 to 2014,” http://www.sec.gov/Archives/edgar/data/1418135/00014181351 http://www.statista.com/statistics/225464/market-share-of- 4000008/dps- leading-soft-drink-companies-in-the-us-since-2004/, accessed 10kx123113.htm#s805A81D3A8762FDE5211EBF5C5DADD83, Feb. 15, 2015. accessed Feb. 15, 2015. lxix Sam Diedrich, “The Dollar Rally: Where does the Buck lxxvii Statista, “Market share of leading carbonated soft drink Stop?” Forbes, Oct. 14, 2014, companies in the United States from 2004 to 2014,” http://www.forbes.com/sites/greatspeculations/2014/10/14/the- http://www.statista.com/statistics/225464/market-share-of- dollar-rally-where-will-the-buck-stop/, accessed Feb. 15, 2015. leading-soft-drink-companies-in-the-us-since-2004/, accessed lxx Dr Pepper Snapple Group, Inc. Form 10-K,” pgs.47, Feb. 15, 2015. http://www.sec.gov/Archives/edgar/data/1418135/00014181351 lxxviii United States Securities and Exchange Commission, “Dr 4000008/dps- Pepper Snapple Group, Inc. Form 10-K,” pg. 57, 10kx123113.htm#s805A81D3A8762FDE5211EBF5C5DADD83, http://www.sec.gov/Archives/edgar/data/1418135/00014181351 accessed Feb. 15, 2015. 4000008/dps- lxx Statista, “Market share of leading carbonated soft drink 10kx123113.htm#s805A81D3A8762FDE5211EBF5C5DADD83, companies in the United States from 2004 to 2014,” accessed Feb. 15, 2015. http://www.statista.com/statistics/225464/market-share-of- lxxix Jocelyn Phillips, IBISWorld Industry Report, August 2014, leading-soft-drink-companies-in-the-us-since-2004/, accessed http://clients1.ibisworld.com.proxy.lib.uiowa.edu/reports/us/indu Feb. 15, 2015 stry/default.aspx?entid=275, accessed Apr. 20, 2015.

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lxxx Sharon Bailey, “Will Dr Pepper Snapple Sales Growth Outperform Peers,” Apr. 20, 2015, https://marketrealist.com/2015/04/will-dr-pepper-snapples-sales- growth-outperform-peers-1q15/, accessed Apr. 21, 2015. lxxxi The World Bank, “Declines Commodity Prices Likely Continue Through 2015, Says WB Report,” Oct. 16, 2014, http://www.worldbank.org/en/news/press- release/2014/10/16/declines-commodity-prices-likely-continue- through-2015-says-wb-report, accessed Feb. 18, 2015. lxxxiiWikipedia, “Weighted Average Cost of Capital,” http://en.wikipedia.org/wiki/Weighted_average_cost_of_capital, accessed Mar. 23, 2015. lxxxiii Sarah Day Levesque, “Private Label Beverages,” Mintel Online, Dec. 2013, accessed Apr. 20, 2015. lxxxiv Zacks, “Education: Aggressive Growth Investing,” http://www.zacks.com/education/articles.php?id=58a, accessed Apr. 14. 2015.

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Dr. Pepper Snapple Group, Inc. Key Assumptions of Valuation Model

Ticker Symbol DPS Current Share Price $77.79 Current Model Date 4/20/2015 Fiscal Year End Dec. 31

Pre‐Tax Cost of Debt 4.25% Beta 0.73 Risk‐Free Rate 2.54% Equity Risk Premium 4.62% CV Growth of NOPLAT 1.40% CV Growth of EPS 1.40% Current Dividend Yield 1.92 Marginal Tax Rate 34.58% Effective Tax Rate 34.60% After Tax Debt 2.78% CV growth of ROIC 23.43% Cost of Equity 5.91% WACC 5.43% Dr. Pepper Snapple Group, Inc. Revenue Decomposition 6199.37 6328.16

Fiscal Years Ending Dec. 31 2010 2011 2012 2013 2014 2015E 2016E 2017E 2018E 2019E Beverage Concentrates 1,156 1,193 1,221 1,229 1,228 1,227 1,227 1,227 1,226 1,225 Growth 8.75% 3.20% 2.35% 0.66% ‐0.08% ‐0.05% ‐0.01% ‐0.04% ‐0.06% ‐0.05% Packaged Beverages 4,098 4,292 4,358 4,306 4,361 4,357 4,378 4,413 4,462 4,524 Growth ‐0.32% 4.73% 1.54% ‐1.19% 1.28% ‐0.10% 0.50% 0.80% 1.10% 1.40% Latin America Beverages 382 418 416 462 532 615 705 772 851 928 Growth 7.00% 9.42% ‐0.48% 11.06% 15.15% 15.55% 14.71% 9.44% 10.32% 8.98% Total Net Sales 5,636 5,903 5,995 5,997 6,121 6,199 6,311 6,412 6,539 6,678 Change in Total Net Sales 1.90% 4.74% 1.56% 0.03% 2.07% 1.27% 1.81% 1.60% 1.99% 2.11% 2.06%

% of Sales 2010 2011 2012 2013 2014 2015E 2016E 2017E 2018E 2019E Beverage Concentrates 20.51% 20.21% 20.37% 20.49% 20.06% 19.80% 19.45% 19.13% 18.75% 18.35% Packaged Beverages 72.71% 72.71% 72.69% 71.80% 71.25% 70.28% 69.38% 68.83% 68.23% 67.75% Latin America Beverages 6.78% 7.08% 6.94% 7.70% 8.69% 9.92% 11.17% 12.04% 13.02% 13.89% Total 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% Dr. Pepper Snapple Group, Inc. 37.66% 39.97% 36.68% 37.74% 37.95% 38.00% 38.07% 37.69% Income Statement 26.38% ‐40.41% 30.57% 32.57% 34.29% 34.29% 34.29% 34.29% (Millions, except per share data) 35.69% ‐14.94% 34.58% 36% Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019E Net sales 5,995 5,997 6,121 6,199 6,311 6,412 6,539 6,678 Cost of sales 2,500 2,499 2,491 2,492 2,531 2,584 2,622 2,691 Gross profit 3,495 3,498 3,630 3,707 3,780 3,828 3,917 3,987 Selling, general & administrative expenses 2,268 2,272 2,334 2,374 2,423 2,462 2,521 2,568 Multi-employer pension plan withdrawal - 56 ------Depreciation & amortization 124 115 115 116 124 129 134 141 Other operating expense, net 11 9 1 8 8 8 8 8 Income from operations 1,092 1,046 1,180 1,208 1,225 1,229 1,254 1,270 Interest expense 125 123 109 110 118 117 117 116 Interest income 2 2 2 3 3 2 2 2 Other expense (income), net 9 (383) - - - 14 - 14 Earnings from continuing operations before income taxes 978 542 1,073 1,101 1,109 1,101 1,139 1,143 Provision (benefit) for income taxes 349 (81) 371 396 399 396 410 411 Income before equity in earnings of unconsolidated subsidiaries 629 623 702 705 710 704 729 731 Equity in earnings of unconsolidated subsidiaries, net of tax - 1 1 1 1 - 1 1 Net income 629 624 703 706 711 704 730 732 Year end shares outstanding 205.29 197.98 192.96 188.00 183.33 178.94 174.79 170.89 Basic EPS $ 2.99 $ 3.08 $ 3.59 $ 3.71 $ 3.83 $ 3.89 $ 4.13 $ 4.24 Dividends per common share $ 1.36 $ 1.52 $ 1.64 $ 1.67 $ 1.76 $ 1.80 $ 1.92 $ 1.94 Dr. Pepper Snapple Group, Inc. Balance Sheet 0.30 0.31 0.32 0.29 0.30 0.30 0.30 0.30 (Millions) Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019E Asset Current Asset Cash & cash equivalents 366 153 237 236 269 256 234 251 Accounts receivable, trade, net 602 622 617 637 650 655 670 683 Inventories 197 200 204 222 216 217 223 229 Deferred tax assets 66 66 67 38 15 20 25 20 Prepaid expenses & other current assets 104 78 86 106 102 99 99 104 Total current assets 1,335 1,119 1,211 1,239 1,252 1,248 1,252 1,287 Gross Property, plant & equipment 2,365 2,452 2,542 2,728 2,912 3,098 3,290 3,484 Less: Accumulated depreciation and amortization (1,163) (1,279) (1,401) (1,517) (1,642) (1,770) (1,904) (2,045) Property, plant & equipment, net 1,202 1,173 1,141 1,210 1,270 1,327 1,385 1,439 Investments in unconsolidated subsidiaries 14 15 14 14 14 14 14 14 Goodwill, net 2,983 2,988 2,990 2,990 2,990 2,990 2,990 2,990 Other intangible assets, net 2,684 2,694 2,684 2,682 2,684 2,684 2,681 2,680 Other non-current assets 580 127 159 160 149 161 157 162 Non-current deferred tax assets 130 85 74 63 53 43 36 30 Total assets 8,928 8,201 8,273 8,359 8,412 8,467 8,515 8,603

Liabilites & Equity Current Liabilities Accounts payable 283 271 289 286 293 296 304 309 Deferred revenue 65 65 64 68 68 67 67 67 Short-term borrowings & current portion of long-term obligations 250 66 3 - 500 - 724 250 Income taxes payable 45 33 10 29 24 21 25 23 Other current liabilities 589 595 672 615 618 625 632 622 Total current liabilities 1,232 1,030 1,038 998 1,503 1,010 1,753 1,272 Long-term obligations 2,554 2,508 2,588 2,399 1,982 2,555 1,857 2,335 Non-current deferred tax liabilities 630 755 801 817 759 801 846 869 Non-current deferred revenue 1,386 1,318 1,250 1,247 1,315 1,312 1,339 1,375 Other non-current liabilities 846 313 302 610 577 530 466 497 Total liabilities 6,648 5,924 5,979 6,073 6,136 6,208 6,261 6,348

Stockholders' Equity Common Stock and Additional paid-in capital 1,310 972 660 668 677 685 694 702 Retained earnings (accumulated deficit) 1,080 1,393 1,771 1755 1736 1710 1697 1690 Accumulated other comprehensive income (loss) (110) (88) (137) (137) (137) (137) (137) (137) Total stockholders' equity 2,280 2,277 2,294 2286 2275 2258 2254 2255 Total liabilities and stockholder's equity 8928 8201 8273 8359 8412 8467 8515 8603 Dr. Pepper Snapple Group, Inc. Cash Flow Statement (Millions) Fiscal Years Ending Dec. 31 2010 2011 2012 2013 2014 Net income (loss) 528 606 629 624 703 Depreciation expense 185 198 203 196 199 Amortization expense 38 34 37 38 36 Amortization of deferred financing costs 5 - - - - Amortization of deferred revenue (37) (65) (65) (65) (65) Employee stock-based compensation expense 29 34 35 37 48 Deferred income taxes 37 (498) 91 138 43 Loss (gain) on early extinguishment of debt 100 - - - - Provision for doubtful accounts 1 - - - - Loss (gain) on disposal of property & intangible assets 8 - - - - Unrealized loss (gain) on derivatives (1) - - - - Other adjustments, net (1) 24 (18) 35 21 Inventories 19 29 17 (30) (8) Other current & non-current assets (20) (21) (21) 456 (25) Other current & non-current liabilities 1,672 1 (29) (556) 58 Trade accounts payable (48) (30) 10 (6) 29 Income taxes payable 22 521 (468) (6) (12) Trade & other accounts receivable (2) (73) 37 (22) (5) Net change in other operating assets & liabilities 29 - - - - Net cash flows from operating activities 2,535 760 458 866 1,022 Acquisition of business - - - (10) (19) Purchase of property, plant & equipment (246) (215) (193) (179) (170) Purchase of intangible assets - (3) (7) (5) (1) Investments in unconsolidated subsidiaries (1) (2) - - - Proceeds from disposals of property, plant & equipment 18 3 7 1 8 Other cash flows from investing activities 4 - - (2) (3) Net cash flows from investing activities (225) (217) (193) (195) (185) Proceeds from senior unsecured notes & senior unsecured credit facility - 1,000 500 - - Repayment of senior unsecured notes & senior unsecured credit facility (978) (400) (450) (25) - Net issuance of commercial paper - - - 65 (65) Repurchase of shares of common stock (1,113) (522) (400) (400) (400) Proceeds from Issuance of common stock Dividends paid (194) (251) (284) (302) (317) Deferred financing charges & debt reacquisition costs paid (1) - (4) - - Tax withholdings related to net share settlements of certain stock awards - - - (13) (16) Proceeds from stock options exercised 6 20 22 15 41 Excess tax benefit on stock-based compensation - 10 16 6 11 Other cash flows from financing activities - (9) (3) (1) (1) Net cash flows from financing activities (228) (152) (603) (880) (747) Effect of exchange rate changes on cash & cash equivalents 5 (5) 3 (4) (6) Net Change in cash & cash equivalents 30 391 (338) (209) 90 Cash & cash equivalents at beginning of year 280 315 701 366 153 Cash & cash equivalents at end of year 315 701 366 153 237 Dr. Pepper Snapple Group, Inc. Cash Flow Statement

Fiscal Years Ending Dec. 31 2015E 2016E 2017E 2018E 2019E Net income (loss) 706 711 704 730 732 Depreciation expense 116 124 129 134 141 Change in trade receivable (20) (13) (5) (15) (13) Change in Inventories (18) 6 (1) (6) (6) Change in prepaid expense & other current assets (20) 4 2 0 (5) Change in trade accounts payable (3) 7 3 8 5 Change in deferred revenue 4 (1) (0) (0) (0) Change in income taxes payable 19 (5) (3) 4 (1) Deferred income taxes 56 (25) 48 46 34 Change in other current liabilities (57) 3 7 7 (10) Change in deferred revenue-long term (3) 68 (3) 27 36 Net cash flows from operating activities 781 878 882 935 914 Acquisition of business 00000 Capital expediture (186) (184) (186) (192) (195) Purchase of intangible assets 2 (1) 0 3 1 Change in investments in unconsolidated subsidiaries (0) (0) (0) (0) (0) Change in other assets (1) 11 (12) 4 (5) Net cash flows from investing activities (185) (174) (198) (185) (199) Change in current short term portion ‐3 500 ‐500 724 ‐474 Repurchase of shares of common stock (400) (400) (400) (400) (400) Proceeds from issuance of common stock (ESOP) 8 8 8 8 8 Chang in other long-term liabilities 308 (33) (47) (63) 31 Dividends paid (322) (330) (330) (343) (340) Change in other non-cureent liabilities (189) (417) 573 (698) 477 Change in accumulated other comprehensive income 00000 Net cash flows from financing activities (597) (672) (696) (772) (697) Effect of exchange rate changes on cash & cash equivalents Net Change in cash & cash equivalents ‐132‐12 ‐22 17 Cash & cash equivalents at beginning of year 237 236 269 256 234 Cash & cash equivalents at end of year 236 269 256 234 251 Dr. Pepper Snapple Group, Inc. 38.02% 38.34% 0.17% Common Size Income Statement 0.0156185 0.0199902 0.82% 41.32% Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019E Net sales 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% Cost of sales 41.70% 41.67% 41.02% 40.20% 40.10% 40.30% 40.10% 40.30% Gross profit 58.30% 58.33% 59.30% 59.80% 59.90% 59.70% 59.90% 59.70% Selling, general & administrative expenses 37.83% 37.89% 38.13% 38.30% 38.40% 38.40% 38.55% 38.45% Multi-employer pension plan withdrawal ‐ 0.93% ‐ ‐‐‐‐‐ Depreciation & amortization 2.07% 1.92% 1.88% 1.88% 1.97% 2.01% 2.05% 2.11% Other operating expense, net 0.18% 0.15% 0.02% 0.13% 0.13% 0.12% 0.12% 0.12% Income from operations 18.22% 17.44% 19.28% 19.49% 19.40% 19.17% 19.18% 19.02% Interest expense 2.09% 2.05% 1.78% 1.77% 1.87% 1.82% 1.79% 1.73% Interest income 0.03% 0.03% 0.03% 0.05% 0.05% 0.03% 0.03% 0.03% Other expense (income), net 0.15% ‐6.39% ‐ 0.00% 0.00% 0.22% 0.00% 0.21% Earnings from continuing operations before income taxes 16.31% 9.04% 17.53% 17.77% 17.58% 17.16% 17.42% 17.11% Provision (benefit) for income taxes 5.82% ‐1.35% 6.06% 6.40% 6.33% 6.18% 6.27% 6.16% Income before equity in earnings of unconsolidated subsidiaries 10.49% 10.39% 11.47% 11.37% 11.25% 10.98% 11.15% 10.95%

Equity in earnings of unconsolidated subsidiaries, net of tax ‐ 0.02% 0.02% 0.02% 0.02% 0.00% 0.02% 0.01% Net income 10.49% 10.41% 11.49% 11.39% 11.27% 10.98% 11.16% 10.97% Year end shares outstanding 3.42% 3.30% 3.15% 3.03% 2.91% 2.79% 2.67% 2.56% Basic EPS 0.05% 0.05% 0.06% 0.06% 0.06% 0.06% 0.06% 0.06% Dividends per common share 0.02% 0.03% 0.03% 0.03% 0.03% 0.03% 0.03% 0.03% Dr. Pepper Snapple Group, Inc. Common Size Balance Sheet (% of sales, 2 decimals) Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019E Asset Current Asset Cash & cash equivalents 6.11% 2.55% 3.87% 3.81% 4.26% 4.00% 3.58% 3.76% Accounts receivable, trade, net 10.04% 10.37% 10.08% 10.28% 10.31% 10.22% 10.25% 10.23% Inventories 3.29% 3.34% 3.33% 3.57% 3.42% 3.39% 3.41% 3.43% Deferred tax assets 1.10% 1.10% 1.09% 0.62% 0.24% 0.31% 0.38% 0.30% Prepaid expenses & other current assets 1.73% 1.30% 1.40% 1.70% 1.61% 1.55% 1.51% 1.56% Total current assets 22.27% 18.66% 19.78% 19.99% 19.83% 19.46% 19.14% 19.28% Gross Property, plant & equipment 39.45% 40.89% 41.53% 44.00% 46.14% 48.31% 50.30% 52.18% Less: Accumulated depreciation and amortization -19.40% -21.33% -22.89% -24.48% -26.01% -27.61% -29.12% -30.62% Property, plant & equipment, net 20.05% 19.56% 18.64% 19.52% 20.13% 20.70% 21.18% 21.55% Investments in unconsolidated subsidiaries 0.23% 0.25% 0.23% 0.23% 0.22% 0.22% 0.21% 0.21% Goodwill, net 49.76% 49.82% 48.85% 48.24% 47.38% 46.63% 45.72% 44.78% Other intangible assets, net 44.77% 44.92% 43.85% 43.27% 42.52% 41.85% 41.00% 40.14% Other non-current assets 9.67% 2.12% 2.60% 2.58% 2.36% 2.51% 2.39% 2.43% Non-current deferred tax assets 2.17% 1.42% 1.21% 1.02% 0.85% 0.67% 0.56% 0.46% Total assets 148.92% 136.75% 135.16% 134.85% 133.29% 132.04% 130.21% 128.83%

Liabilites & Equity Current Liabilities 1.56% Accounts payable 4.72% 4.52% 4.72% 4.61% 4.64% 4.62% 4.65% 4.63% Deferred revenue 1.08% 1.08% 1.05% 1.10% 1.07% 1.05% 1.03% 1.01% Short-term borrowings & current portion of long-term obligations 4.17% 1.10% 0.05% 0.00% 7.92% 0.00% 11.07% 3.74% Income taxes payable 0.75% 0.55% 0.16% 0.47% 0.38% 0.33% 0.38% 0.35% Other current liabilities 9.82% 9.92% 10.98% 9.92% 9.79% 9.75% 9.67% 9.32% Total current liabilities 20.55% 17.18% 16.96% 16.11% 23.81% 15.75% 26.80% 19.05% Long-term obligations 42.60% 41.82% 42.28% 38.70% 31.41% 39.85% 28.40% 34.96% Non-current deferred tax liabilities 10.51% 12.59% 13.09% 13.19% 12.03% 12.50% 12.94% 13.02% Non-current deferred revenue 23.12% 21.98% 20.42% 20.12% 20.84% 20.46% 20.47% 20.59% Other non-current liabilities 14.11% 5.22% 4.93% 10.37% 9.68% 8.86% 7.81% 8.33% Total liabilities 110.89% 98.78% 97.68% 97.97% 97.23% 96.82% 95.75% 95.07%

Stockholders' Equity Common Stock and Additional paid-in capital 21.85% 16.21% 10.78% 10.78% 10.73% 10.69% 10.61% 10.52% Retained earnings (accumulated deficit) 18.02% 23.23% 28.93% 28.31% 27.50% 26.67% 25.95% 25.30% Accumulated other comprehensive income (loss) -1.83% -1.47% -2.24% -2.21% -2.17% -2.14% -2.09% -2.05% Total stockholders' equity 38.03% 37.97% 37.48% 36.88% 36.06% 35.22% 34.46% 33.77% Total liabilities and stockholder's equity 148.92% 136.75% 135.16% 134.85% 133.29% 132.04% 130.21% 128.83% Dr. Pepper Snapple Group, Inc. Value Driver Estimation

Fiscal Years Ending Dec. 31 2012 2013 2014 2015E 2016E 2017E 2018E 2019E Revenue 5,995 5,997 6,121 6,199 6,311 6,412 6,539 6,678 Less: Cost of sales 2,500 2,499 2,491 2,492 2,531 2,584 2,622 2,691 Less: Selling, general & administrative expenses 2,268 2,272 2,334 2,374 2,423 2,462 2,521 2,568 Less: Depreciation & amortization 124 115 115 116 124 129 134 141 Less: Other operating expense, net 11 9 1 8 8 8 8 8 Plus: Implied interest on operating leases 9.44 9.61 8.63 9.15 9.60 10.04 10.47 10.88 EBITA 1,101 1,112 1,189 1,218 1,234 1,239 1,265 1,281

Marginal Taxes 37.66% 39.97% 36.68% 37.74% 37.95% 38.00% 38.07% 37.69% Provisions (benefits) for taxes 349 (81) 371 396 399 396 410 411 Plus: Tax shield on interest expense 47 49 40 42 45 44 45 44 Less: Tax shield on income 1 1 1 1 1 1 1 1 Plus: Tax shield on other expense (income) 3 (153) ‐ ‐ ‐ 5 ‐ 5 Plus: Tax shield on multi‐employer pension plan withdrawl ‐ 22 ‐ ‐ ‐ ‐ ‐ ‐ Plus: Tax shield on implied interest of operating Leases 4 4 3 3 4 4 4 4 Total adjusted taxes 402 (159) 413 440 447 449 458 464 Change in deferred taxes 91 138 43 56 (25) 48 46 34 NOPLAT 790 1,409 818 833 762 838 853 852

Operating Current Assets: Normal Cash 60 60 61 62 63 64 65 67 Accounts Receivable 602 622 617 637 650 655 670 683 Inventory 197 200 204 222 216 217 223 229 Prepaid Expenses and other current assets 104 78 86 106 102 99 99 104 Non Interest‐Bearing Current Liabilities: Accounts Payable 283 271 289 286 293 296 304 309 Deferred Revenue 65 65 64 68 68 67 67 67 Income Taxes Payable 45 33 10 29 24 21 25 23 Net Operating Working Capital 570 591 605 643 646 651 661 682 Net Property, Plant, and Equipment 1,202 1,173 1,141 1,210 1,270 1,327 1,385 1,439 Net Intangible Assets 2,684 2,694 2,684 2,682 2,684 2,684 2,681 2,680 PV of Operating Leases 222 226 203 215 226 236 246 256 Net Other Operating Assets 2,906 2,920 2,887 2,898 2,910 2,920 2,927 2,936 Less: Other Operating Liabilities 1,386 1,318 1,250 1,247 1,315 1,312 1,339 1,375 Invested Capital 3,292 3,366 3,383 3,503 3,511 3,586 3,635 3,683

NOPLAT 790 1409 818 833 762 838 853 852 Beg. Invested Capital 2790 3292 3366 3,383 3,503 3,511 3,586 3,635 ROIC 28.32% 42.80% 24.31% 24.62% 21.76% 23.87% 23.77% 23.4253%

NOPLAT 790 1409 818 833 762 838 853 852 Capital Expediture 502 74 17 120 8 75 49 48 FCF 288 1,335 801 713 755 763 803 804

Beg. Invested Capital 3,292 3,366 3,383 3,503 3,511 3,586 3,635 3,683 ROIC‐ WACC 22.90% 37.38% 18.88% 19.19% 16.34% 18.45% 18.35% 18.00% EP 639 1,231 636 649 572 648 658 654 Dr. Pepper Snapple Group, Inc. Weighted Average Cost of Capital (WACC) Estimation WACC 5.43%

Pre‐Tax Cost of Debt 4.25% Marginal Tax Rate 34.58% After‐Tax Cost of Debt 2.78%

Beta 0.73 Risk‐Free Rate 2.54% Equity Risk‐Premium 4.62% Cost of equity 5.91%

Shares Outstanding 192,957,696 Share Price $77.79 Market value of equity $15,010,179,171.84 Market Value of Debt (Including PV of Operating Leases) $2,794,000,000.00 Market value of firm $17,804,179,171.84 Dr. Pepper Snapple Group, Inc. Discounted Cash Flow (DCF) and Economic Profit (EP) Valuation Models (Millions)

Key Inputs: CV Growth 1.40% CV ROIC 23.43% WACC 5.43% Cost of Equity 5.91%

Fiscal Years Ending Dec. 31 2015E 2016E 2017E 2018E 2019E

DCF Model Period 1 2 3 4 4 FCF $ 712.96 $ 754.54 $ 763.46 $ 803.12 $ 803.78 Continuing value (CV) of FCF $ 19,891.70 PV of FCF Discounted by WACC $ 676.27 $ 678.88 $ 651.56 $ 650.14 $ 16,102.61

Value of Operating Assets $ 18,759.46 Plus: Excess Cash $ 175.06 plus: Other non‐current asset $ 160.00 Less: Long term Debt $ 2,588.00 Less: Short term Debt $ 3.00 Less: ESOP $ 44.34 Less: PV of Operating Leases $ 203.00 Less: Investments in unconsolidated subsidiaries $ 14.00 Less Other non-current liabilities $ 302.00 Less Other current liabilities $ 672.00 Equity in earnings of unconsolidated subsidiaries, net of tax $ 1.00

Value of Equity $ 15,267.18 Shares Outstanding $ 192.96 Intrinsic Value (per share) $ 79.12

Adjusted Value (per share) $ 79.95

Fiscal Years Ending 2015E 2016E 2017E 2018E 2019E

EP Model Period 1 2 3 4 4 Economic Profit to Discount$ 649.34 $ 572.35 $ 647.77 $ 657.98 $ 654.34 Continuing Value (CV) $ 16,256.54 PV of FCF Discounted by WACC$ 615.93 $ 514.96 $ 552.83 $ 532.64 $ 13,159.89

PV (Economic Profit)$ 15,376.25 + Beginning Invested Capital (T=0)$ 3,383.21

Value of Operating Assets $ 18,759.46 Plus: Excess Cash $ 175.06 plus: Other non‐current asset $ 160.00 Less: Long term Debt $ 2,588.00 Less: Short term Debt $ 3.00 Less: ESOP $ 44.34 Less: PV of Operating Leases $ 203.00 Less: Investments in unconsolidated subsidiaries $ 14.00 Less Other non-current liabilities $ 302.00 Less Other current liabilities $ 672.00 Equity in earnings of unconsolidated subsidiaries, net of tax $ 1.00

Value of Equity $ 15,267.18 Shares Outstanding$ 192.96 Intrinsic Value (per share)$ 79.12

Adjusted Value (per share) $ 79.95 Dr. Pepper Snapple Group, Inc. Dividend Discount Model (DDM) or Fundamental P/E Valuation Model

Fiscal Years Ending Dec. 31 2015E 2016E 2017E 2018E 2019E

EPS$ 3.71 $ 3.83 $ 3.89 $ 4.13 $ 4.24

Key Assumptions CV growth 1.40% CV ROE 32% Cost of Equity 5.91%

Future Cash Flows Period 12344 P/E Multiple (CV Year) 21.21 EPS (CV Year)$ 4.24 Future Stock Price$ 89.85 Dividends Per Share$ 1.67 $ 1.76 $ 1.80 $ 1.92 $ 1.94 Future Cash Flows$ 1.67 $ 1.76 $ 1.80 $ 1.92 Future Cash Flows (CV)$ 89.85 Discounted Cash Flows$ 1.58 $ 1.57 $ 1.51 $ 1.52 $ 71.40

Intrinsic Value$ 76.01

Adjusted Value $ 76.80 Dr. Pepper Snapple Group, Inc. Relative Valuation Models EPS EPS Est. 5yr Ticker Company Price 2015E 2016E P/E 15 P/E 16 EPS gr. PEG 15 PEG 16 KO The Coca‐Cola Company $40.55 $1.99 $2.14 20.4 18.9 4.87 4.18 3.89 PEP Pepsico, Inc. $95.62 $4.66 $5.05 20.5 18.9 6.77 3.03 2.80 KRFT Kraft Foods Group, Inc. $87.11 $3.24 $3.48 26.9 25.0 4.43 6.07 5.65 MNST Monster Beverage Corporatio $138.40 $3.37 $4.03 41.1 34.3 19.6 2.10 1.75 Average 22.6 21.0 4.4 4.1

DPS Dr. Pepper Snapple Group, Inc $77.79 $3.71 $3.83 21.0 20.3 3.37 6.2 6.0

Implied Value: Relative P/E (EPS15) $ 83.73 Relative P/E (EPS16)$ 80.31 PEG Ratio (EPS15)$ 55.30 PEG Ratio (EPS16)$ 53.07 Dr. Pepper Snapple Group, Inc. Key Management Ratios

Fiscal Years Ending Dec. 31 2011 2012 2013 2014 2015E 2016E 2017E 2018E 2019E

Liquidity Ratios Current Ratio CA/CL 0.92 1.08 1.09 1.17 1.24 0.83 1.24 0.71 1.01 Quick Ratio (Cash+ST Securities+AR)/CL 0.70 0.79 0.75 0.82 0.87 0.61 0.90 0.52 0.73 Cash Ratio Cash/CL 0.37 0.30 0.15 0.23 0.24 0.18 0.25 0.13 0.20

Activity or Asset‐Management Ratios Inventory Turnover Net Sales/AR 9.30 9.96 9.64 9.92 9.73 9.70 9.79 9.76 9.78 Receivable Turnover COGS/Inventory 11.72 12.69 12.50 12.21 11.25 11.71 11.89 11.75 11.76 Fixed Assets Turnover Net Sales/PPE, net 5.12 4.99 5.11 5.36 5.12 4.97 4.83 4.72 4.64

Financial Leverage Ratios Debt Ratio Total Debt/Total Assets 0.21 0.14 0.13 0.13 0.12 0.18 0.12 0.21 0.15 D/E Ratio Total Debt/Total SE 0.69 1.00 1.12 1.10 1.13 1.05 0.87 1.13 0.82 Interest Coverage EBITA/Interest Expense 9.08 8.81 9.04 10.90 11.07 10.44 10.63 10.81 11.08

Profitability Ratios Net Profit Margin Net Income/Revenues 10.27% 10.49% 10.41% 11.49% 11.39% 11.27% 10.98% 11.16% 10.97% Gross Profit Margin Gross Profit/Revenues 57.90% 58.30% 58.33% 59.30% 59.80% 59.90% 59.70% 59.90% 59.70% Return on Assets Net Income/Total Assets 6.53% 7.05% 7.61% 8.50% 8.44% 8.45% 8.32% 8.57% 8.51% Return on Equity Net Income/Total SE 24.64% 27.79% 27.37% 30.87% 30.77% 31.10% 30.95% 32.33% 32.49%

Payout Policy Ratios Payout Ratio Div. per share/EPS 43.68% 45.48% 49.35% 45.68% 45.06% 45.85% 46.29% 46.45% 45.87% Total Payout Ratio (Dividend+ Repurchase)/Net Income 1.11 1.09 1.14 1.03 1.02 1.03 1.04 1.02 1.01 Present Value of Operating Lease Obligations (2014) Present Value of Operating Lease Obligations (2013) Present Value of Operating Lease Obligations (2012)

Operating Operating Operating Fiscal Years Ending Dec. 31 Leases Fiscal Years Ending CV Growth of NOPLAT Leases Fiscal Years Ending 80.7292588603138 Leases 2015 47 2014 58 2013 71 2016 40 2015 53 2014 58 2017 32 2016 44 2015 51 2018 24 2017 36 2016 41 2019 21 2018 28 2017 33 Thereafter 75 Thereafter 73 Thereafter 94 Total Minimum Payments 239 Total Minimum Payments 292 Total Minimum Payments 348 Less: Interest 36 Less: Interest 41 Less: Interest 50 PV of Minimum Payments 203 PV of Minimum Payments 251 PV of Minimum Payments 298

2011 Capitalization of Operating Leases Capitalization of Operating Leases Capitalization of Operating Leases

Pre‐Tax Cost of Debt 4.25% Pre‐Tax Cost of Debt 4.25% Pre‐Tax Cost of Debt 4.25% Number Years Implied by Year 6 Payment 3.6 Number Years Implied by Year 6 Payment 2.6 Number Years Implied by Year 6 Payment 2.8

Lease PV Lease Lease PV Lease Lease PV Lease Year Commitment Payment Year Commitment Payment Year Commitment Payment 1 47 45.1 1 58 55.6 1 71 68.1 2 40 36.8 2 53 48.8 2 58 53.4 3 32 28.2 3 44 38.8 3 51 45.0 4 24 20.3 4 36 30.5 4 41 34.7 5 21 17.1 5 28 22.7 5 33 26.8 6 & beyond 21 55.4 6 & beyond 28 55.0 6 & beyond 33 70.5 PV of Minimum Payments 202.9 PV of Minimum Payments 251.5 PV of Minimum Payments 298.5 Effects of ESOP Exercise and Share Repurchases

Number of Options Outstanding (shares): 1,529,235 Average Time to Maturity (years): 8.20 Expected Annual Number of Options Exercised: 186,492

Current Average Strike Price:$ 45.27 Cost of Equity: 5.91% *note left this number alone for now since haven't calcu Current Stock Price: $77.79

2015E 2016E 2017E 2018E 2019E Increase in Shares Outstanding: 186,492 186,492 186,492 186,492 186,492 Average Strike Price:$ 45.27 $ 45.27 $ 45.27 $ 45.27 $ 45.27 Increase in Common Stock Account: 8,442,496 8,442,496 8,442,496 8,442,496 8,442,496

Change in Treasury Stock 400,000,000 400,000,000 400,000,000 400,000,000 400,000,000 Expected Price of Repurchased Shares:$ 77.79 $ 82.39 $ 87.26 $ 92.42 $ 97.88 Number of Shares Repurchased: 5,142,049 4,854,993 4,583,961 4,328,061 4,086,445

Shares Outstanding (beginning of the year) 192,957,696 188,002,139 183,333,638 178,936,169 174,794,600 Plus: Shares Issued Through ESOP 186,492 186,492 186,492 186,492 186,492 Less: Shares Repurchased in Treasury 5,142,049 4,854,993 4,583,961 4,328,061 4,086,445 Shares Outstanding (end of the year) 188,002,139 183,333,638 178,936,169 174,794,600 170,894,647 VALUATION OF OPTIONS GRANTED IN ESOP

Ticker Symbol DPS Current Stock Price $78.79 Risk Free Rate 1.99% Current Dividend Yield 1.92% Annualized St. Dev. of Stock Returns 16.67%

Average Average B‐S Value Range of Number Exercise Remaining Option of Options Outstanding Options of Shares Price Life (yrs) Price Granted Range 1 1,529,235 45.27 8.20 $ 30.27 $ 46,292,017 Total 1,529,235$ 45.27 8.20$ 40.84 $ 46,292,017 Beta $79.95 0.68 0.69 0.7 0.71 0.72 0.73 0.74 0.75 0.76 0.77 0.78 0.79 1.28% 82.67 81.69 80.73 79.79 78.86 77.95 77.06 76.19 75.33 74.49 73.66 72.85 1.30% 83.03 82.05 81.08 80.13 79.19 78.28 77.38 76.50 75.63 74.79 73.95 73.13 1.32% 83.40 82.40 81.43 80.47 79.53 78.61 77.70 76.81 75.94 75.09 74.25 73.42 1.34% 83.77 82.77 81.78 80.82 79.87 78.94 78.02 77.13 76.25 75.39 74.54 73.71 1.36% 84.15 83.13 82.14 81.16 80.21 79.27 78.35 77.45 76.56 75.69 74.84 74.00 1.38% 84.53 83.50 82.50 81.52 80.55 79.61 78.68 77.77 76.88 76.00 75.14 74.30 CV Growth 1.40% 84.91 83.88 82.87 81.87 80.90 79.95 79.01 78.10 77.20 76.31 75.45 74.60 of NOPLAT 1.42% 85.30 84.26 83.24 82.24 81.25 80.29 79.35 78.43 77.52 76.63 75.75 74.90 1.44% 85.69 84.64 83.61 82.60 81.61 80.64 79.69 78.76 77.84 76.95 76.06 75.20 1.46% 86.08 85.02 83.98 82.97 81.97 80.99 80.03 79.09 78.17 77.27 76.38 75.51 1.48% 86.48 85.41 84.37 83.34 82.33 81.35 80.38 79.43 78.50 77.59 76.69 75.82 1.50% 86.89 85.81 84.75 83.71 82.70 81.71 80.73 79.77 78.84 77.92 77.01 76.13 1.52% 87.29 86.20 85.14 84.09 83.07 82.07 81.08 80.12 79.17 78.25 77.34 76.44 1.1 1.0 1.0 1.0 1.0 1.0 0.9 0.9 0.9 0.9 0.9 0.9 CV ROIC $79.95 23.18% 23.23% 23.28% 23.33% 23.38% 23.43% 23.48% 23.53% 23.58% 23.63% 23.68% 23.73% 2.24% 86.43 86.44 86.45 86.47 86.48 86.49 86.50 86.51 86.53 86.54 86.55 86.56 2.29% 85.28 85.29 85.30 85.32 85.33 85.34 85.35 85.36 85.38 85.39 85.40 85.41 2.34% 84.15 84.17 84.18 84.19 84.20 84.21 84.23 84.24 84.25 84.26 84.27 84.29 2.39% 83.05 83.07 83.08 83.09 83.10 83.11 83.13 83.14 83.15 83.16 83.17 83.18 2.44% 81.98 81.99 82.00 82.01 82.02 82.04 82.05 82.06 82.07 82.08 82.09 82.11 2.49% 80.92 80.94 80.95 80.96 80.97 80.98 80.99 81.00 81.02 81.03 81.04 81.05 Risk free 2.54% 79.89 79.90 79.91 79.93 79.94 79.95 79.96 79.97 79.98 79.99 80.01 80.02 2.59% 78.88 78.89 78.90 78.92 78.93 78.94 78.95 78.96 78.97 78.98 78.99 79.01 2.64% 77.89 77.90 77.91 77.93 77.94 77.95 77.96 77.97 77.98 77.99 78.00 78.01 2.69% 76.92 76.93 76.94 76.96 76.97 76.98 76.99 77.00 77.01 77.02 77.03 77.04 2.74% 75.97 75.98 75.99 76.00 76.02 76.03 76.04 76.05 76.06 76.07 76.08 76.09 2.79% 75.04 75.05 75.06 75.07 75.08 75.09 75.11 75.12 75.13 75.14 75.15 75.16 2.84% 74.13 74.14 74.15 74.16 74.17 74.18 74.19 74.20 74.21 74.22 74.23 74.24 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0

After Tax Rate $79.95 2.53% 2.58% 2.63% 2.68% 2.73% 2.78% 2.83% 2.88% 2.93% 2.98% 3.03% 3.08% 5.61% 87.65 87.43 87.21 86.99 86.77 86.55 86.34 86.12 85.91 85.69 85.48 85.27 5.66% 86.47 86.26 86.04 85.83 85.61 85.40 85.19 84.98 84.77 84.56 84.35 84.14 5.71% 85.32 85.11 84.90 84.69 84.48 84.27 84.07 83.86 83.65 83.45 83.25 83.04 5.76% 84.20 83.99 83.79 83.58 83.38 83.17 82.97 82.77 82.57 82.37 82.17 81.97 5.81% 83.10 82.90 82.69 82.49 82.29 82.09 81.89 81.70 81.50 81.30 81.11 80.91 5.86% 82.02 81.82 81.63 81.43 81.23 81.04 80.84 80.65 80.46 80.26 80.07 79.88 Cost of Equity 5.91% 80.91 80.72 80.53 80.33 80.14 79.95 79.76 79.57 79.38 79.19 79.01 78.82 5.96% 79.93 79.74 79.56 79.37 79.18 78.99 78.81 78.62 78.43 78.25 78.07 77.88 6.01% 78.92 78.74 78.55 78.37 78.18 78.00 77.82 77.64 77.45 77.27 77.09 76.91 6.06% 77.93 77.75 77.57 77.39 77.21 77.03 76.85 76.67 76.49 76.32 76.14 75.96 6.11% 76.96 76.79 76.61 76.43 76.25 76.08 75.90 75.73 75.55 75.38 75.21 75.03 6.16% 76.01 75.84 75.66 75.49 75.32 75.14 74.97 74.80 74.63 74.46 74.29 74.12 6.21% 75.08 74.91 74.74 74.57 74.40 74.23 74.06 73.89 73.73 73.56 73.39 73.23

0.2 0.2 0.2 0.2 0.2 0.2 0.2 0.2 0.2 0.2 0.2 0.2

COGS/Sales $79.95 38.7% 39.0% 39.3% 39.6% 39.9% 40.2% 40.5% 40.8% 41.1% 41.4% 41.7% 42.0% 36.5% 97.67 96.06 94.45 92.84 91.23 89.62 88.01 86.39 84.78 83.17 81.56 79.95 36.8% 96.06 94.45 92.84 91.23 89.62 88.01 86.39 84.78 83.17 81.56 79.95 78.34 37.1% 94.45 92.84 91.23 89.62 88.01 86.39 84.78 83.17 81.56 79.95 78.34 76.73 37.4% 92.84 91.23 89.62 88.01 86.39 84.78 83.17 81.56 79.95 78.34 76.73 75.12 37.7% 91.23 89.62 88.01 86.39 84.78 83.17 81.56 79.95 78.34 76.73 75.12 73.50 38.0% 89.62 88.01 86.39 84.78 83.17 81.56 79.95 78.34 76.73 75.12 73.50 71.89 SGA/Sales 38.3% 88.01 86.39 84.78 83.17 81.56 79.95 78.34 76.73 75.12 73.50 71.89 70.28 38.6% 86.39 84.78 83.17 81.56 79.95 78.34 76.73 75.12 73.50 71.89 70.28 68.67 38.9% 85.00 83.39 81.78 80.16 78.55 76.94 75.33 73.72 72.11 70.50 68.89 67.28 39.1% 83.60 81.99 80.38 78.77 77.16 75.55 73.93 72.32 70.71 69.10 67.49 65.88 39.4% 82.20 80.59 78.98 77.37 75.76 74.15 72.54 70.93 69.32 67.70 66.09 64.48 39.6% 80.81 79.20 77.59 75.98 74.36 72.75 71.14 69.53 67.92 66.31 64.70 63.09 39.9% 79.41 77.80 76.19 74.58 72.97 71.36 69.75 68.13 66.52 64.91 63.30 61.69

Capital Expenditure $79.95 (120) (130) (140) (150) (160) (170) (180) (190) (200) (210) (220) (230) 1.28% 79.15 78.91 78.67 78.43 78.19 77.95 77.72 77.48 77.24 77.00 76.76 76.52 1.30% 79.48 79.24 79.00 78.76 78.52 78.28 78.04 77.80 77.56 77.32 77.08 76.84 1.32% 79.81 79.57 79.33 79.09 78.85 78.61 78.37 78.12 77.88 77.64 77.40 77.16 1.34% 80.15 79.91 79.66 79.42 79.18 78.94 78.69 78.45 78.21 77.97 77.73 77.48 1.36% 80.49 80.24 80.00 79.76 79.51 79.27 79.03 78.78 78.54 78.30 78.05 77.81 CV Growth 1.38% 80.83 80.59 80.34 80.10 79.85 79.61 79.36 79.12 78.88 78.63 78.39 78.14 of NOPLAT 1.40% 81.18 80.93 80.69 80.44 80.19 79.95 79.70 79.46 79.21 78.97 78.72 78.48 1.42% 81.53 81.28 81.03 80.79 80.54 80.29 80.05 79.80 79.55 79.31 79.06 78.81 1.44% 81.88 81.63 81.38 81.14 80.89 80.64 80.39 80.15 79.90 79.65 79.40 79.15 1.46% 82.24 81.99 81.74 81.49 81.24 80.99 80.74 80.49 80.25 80.00 79.75 79.50 1.48% 82.60 82.35 82.10 81.85 81.60 81.35 81.10 80.85 80.60 80.35 80.10 79.85 1.50% 82.96 82.71 82.46 82.21 81.96 81.71 81.45 81.20 80.95 80.70 80.45 80.20 1.52% 83.33 83.08 82.82 82.57 82.32 82.07 81.81 81.56 81.31 81.06 80.81 80.55