Case Studies

Cooler & Returnable Investments

Lindley, Peru’s Coca-Cola bottler, struggled with some significant headwinds outside of the company’s control during 2018. In May, Peru’s Ministry of Economy unexpectedly increased taxes on alcohol, sugar, cigarettes, gasoline, and other products. The biggest of these tax increases was the sudden and unexpected jump from 17% to 25% on beverages containing sugar. Lindley passed on this full 8% price increase to customers, which decreased volume by 10%, revenue by 4%, and operating profit by 6% for the first nine months of the year. Lindley’s most important competitor, AJE, fared far worse with volume and revenues declining 10% and profitability falling more than 50%. AJE’s financial situation is challenged, so management is divesting and closing operations in a number of markets around the world. Using other markets where sugar taxes were enacted as a guide (including Arca’s previous experience in Mexico), we expect volumes to surpass 2017’s pre-tax totals in a couple of years. Compounding the impact of these higher taxes, political instability due to the unexpected resignation of Peru’s president early in the year retarded infrastructure spending and other investments and weakened consumer confidence. The political climate in the country has stabilized under a new administration, and the economy accelerated in the second half of 2018.

As we hoped and expected, Lindley continued to invest in its business despite these challenges. The company installed over 23,000 point-of-sale coolers and added 700,000 returnable bottles to the market in the first nine months of 2018. These investments will almost certainly yield a nice return. Lindley’s new state-of-the-art plant was operational for all of 2018, and the company recently opened a new distribution center in Lima that serves 22,000 points of sale. Discussions with management and store visits in Peru indicate that the company still has a series of high-return reinvestment opportunities to capitalize on in the coming years.

As you may recall, Lindley is majority-owned by Arca following Arca’s purchase of the Lindley family’s voting stake in 2015. The Coca-Cola Company had been the second largest owner of voting shares until September, when Arca bought Coke’s stake at US$2.26/share. While we hold investment shares that lack voting rights (which is acceptable to us given Arca’s controlling position and our confidence in its management), the Fund’s shares have the same economic interest. Our average cost is US$1.06, and the last trade in the investment shares was at US$1.32/share. This large of a gap between the prices of voting and non-voting shares is irrational, and we expect it to close over time. Just as importantly, we expect that the value of all shares will increase over time as Lindley’s owner earnings begin to grow again in 2019 and beyond.