Citron Confronts the Monster Wall Street Created January 29, 2016 Page 1 of 21

January 29, 2016

The Monster Created By Wall Street Citron Target on Monster Beverage: $80 near term

The past 6 months on Wall Street could be described as "interesting times". Hedge funds have underperformed the market -- some "smart guys" have delivered near-catastrophic returns. Investors of all stripes are now clamoring to rebalance their portfolios. Everyone in the money management game is now facing up to the stark reality that has been altogether forgotten over the last seven years of "straight-up" euphoria:

Valuations Matter!!!

Yes, men with ponytails and screaming bald men on soapboxes have for years browbeat retail investors to buy stocks based on the principle that “they are high, so they have to be going higher”, ignoring underlying valuations. When that party ends, it ends fast, and as you've noticed, they don't ring a bell.

Mr. Market has done a fine job in rebalancing a lot of the froth in the market. But Citron has identified one stock whose valuation -- yes, valuation -- is completely removed from reality considering the business risks and limited growth opportunities.

We reintroduce the investing world to an old name that is worth a second look – Monster Beverage (NASDAQ:MNST). Shorts are sometimes right and sometimes wrong, but they are always early. The bear case thesis on Monster has been around for years. It used to focus on the headwinds of the energy drink business and the health risks of

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the product. All the while the price of MNST has continued to defy gravity-- as if the stock drank four cans of its own product. Citron believes now is the time for both long and shorts to consider the real facts surrounding the business, and consider the price of the stock within the perspective of current market conditions.

Amped-Up Valuation: Over the past 5 years MNST's market valuation is up 500%, while its revenues are up 90%.

Let us start with the facts.

Monster Beverage is not a technology company, nor is it virally scalable, and by no means can you ever call it disruptive (to your health maybe). Monster is not even the #1 player in the energy drink market. The Monster product is not even discernable to its customers as it is more about the marketing than the product…yet Wall Street has ignored reality.

Look at the basic comparisons below. Wall Street is valuing Monster like a tech company, when in reality, it is a single product company selling sugar and caffeine water amongst many competitors, whose business is only as strong as its marketing muscle.

Comps for FAANG Stocks

Companies EV / TTM Revenue

Facebook 15.8 x

Amazon 2.8 x

Apple 2.3 x Netflix 5.8 x

Google 5.8 x

Average 6.5 x

Monster 9.4x

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To illustrate how utterly ridiculous this is versus other beverage companies, consider these comps.

Comps for Beverage Companies

Companies EV / TTM Revenue

Coca Cola Co 4.6 x

Dr Pepper Snapple Group 3.1 x

Green Mountain Coffee Roasters 3.0 x

PepsiCo 2.5 x

Average 3.3 x

Monster 9.4x

Dr. Pepper Snapple Group's valuation (NYSE:DPS) is 30% smaller than Monster's, despite boasting 100% more revenues and roughly 60% greater EBITDA than Monster.

Valuing Monster comparable to DPS’s multiple would result in 48% downside to Monster owners.

Citron explains Monster's valuation disconnect with reality, demonstrating why Monster will trade down to $80.

I’m in Love with Coca (cola)

Coca Cola's buy-in may have temporarily validated Monster, but at a second look it is not as sweet as investors had imagined. After years of controversy, Coca Cola provided some much needed short-term validation in 2014 with its investment in MNST and as usual Wall St overreacted.

Since the transaction MNST stock price is up almost 100% while revenues are up only 10% (even less if you remove the Coca Cola energy drink brand revenues transferred to Monster).

Now let's get back to reality. Coca Cola's investment is NOT the first step towards an eventual purchase. On the contrary, it is the opinion of Citron that this transaction eliminated the possibility of a future takeout and the premium that had always glimmered in the company's future. Coke used

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this transaction to quietly EXIT the energy drink business, distancing itself from the reputational risks of energy drinks to their own portfolio. (One hypothesis is that Coke’s portfolio of energy drinks was never successful because its marketing is limited by its engagement in ‘ethical’ advertising).

This is how the transaction was structured. Coca Cola now has the benefits of participating in the energy drink business without the risk … something even Buffet and Ackman can agree on is a good thing.

http://www.cnbc.com/2015/11/11/the-latest-billionaire-battle-ackman-v-buffett.html

In fact, if you take out the Coke products, Monster’s minimal organic growth is not supportive of a company with this multiple. Here’s the analysis in a single chart:

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The single graph that should give every MNST shareholder nightmares:

Deriving Monster’s Organic Growth from Coke’s disclosures

(1) Net sales are based on 2013 figures of sales received from Coke energy assets less non-energy

assets transferred to Coke - noted that 2015 growth rates would be lower if the 2013 Coke asset sales

are given an assumed growth rate

(2) Based on bloomberg consensus estimates for 2015

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Why an $80 Short Term Target???

In trying to find an honest comparable for Monster, Citron thinks Green Mountain Coffee is the ideal candidate. Both companies are high growth beverage companies who attracted sizable investments from Coca Cola.

We would argue that GMCR is the higher quality business because it is the dominant leader in its category and its product produces recurring revenue through the sale of K-Cups. Given that powerful advantage to GMCR, below we present the comparison of MNST and GMCR on a pre and post takeout basis.

Implied MNST Valuation based on GMCR Take-Out

GMCR Take-Out EV / 2015E EBITDA

13.6x

2015E EBITDA for MNST ($M)

$968

Implied Enterprise Value for MNST ($M) $13,137 Add: Cash ($M)

($2,785)

Implied Market Cap ($M) $15,923 Shares o/s (M)

207

Implied Share Price ($) $76.90

Current Share Price ($)

$137.20

Downside in MNST

(44%)

Implied MNST Valuation based on GMCR Prior to Take-Out

GMCR Take-Out EV / 2015E EBITDA

7.7x

2015E EBITDA for MNST ($M)

$968

Implied Enterprise Value for MNST ($M) $7,496 Add: Cash ($M)

($2,785)

Implied Market Cap ($M) $10,281 Shares o/s (M)

207

Implied Share Price ($) $49.65

Current Share Price ($)

$137.20

Downside in MNST (64%)

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If we chose to value MNST vs Dr. Pepper Snapple, a more direct competitor, it would result in a 48% downside to Monster owners. For the sake of the benefit of the doubt we used the post GMCR takeout value as a benchmark to get to $80 a share for Monster.

C’mon Citron, What about China? Surely China will Unleash Monstrous Growth!...?

Monster has justified its double-digit growth story by teasing its next phase: China. Investor Meeting (Jan 12, 2016):

“Reverting to probably what is our largest individual country opportunity in the to is obviously the Chinese market.”

Wow! It's 2016 and Monster in finally entering China. Note: Monster Energy is not Facebook! For Monster, entering China commits them to an expensive brand-building exercise from the ground up, while selling their product at a price with significantly lower margins than afforded in the US. And their primary obstacle is established branded competitor Red Bull, who has been in China FOR TWENTY YEARS. Not to mention we are skeptical about how popular the Monster Girls will be with the Chinese Government. (Had to throw in the Monster Girls somewhere)

In Monster’s own words (Investor Meeting - Jan 12, 2016):

“They [Red Bull] have very, very much the lion's share of the market… But their pricing is at basically about $1 a can.”

Note to Monster management and analysts: The days of justifying a stupid stock price based on “entering” China is soooooo 2009.

Just look to the past to tell the future. Coca-Cola provides a meaningful example here.

Coke bought Glaceau/ Vitamin Water in 2008 as a U.S.-only business. The rationale was their ability to leverage the asset with massive overseas market penetration, riding Coke's powerful distribution assets. Not to mention Glaceau had a wide array of energy drinks. But, despite Coke's distribution power, it has failed to grow its international market share for Vitaminwater meaningfully. International sales comprise only 12% of sales … after six years.

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Glaceau/VitaminWater Millions of Liters Sold:

So how can Monster’s road in China be anything other than: high brand-building expense, low margins, and slow growth? Where is the Great Leap Forward in this plan?

Margin Margin Margin!!!

If there is one counter-argument to this whole piece that the bulls will counter with, it is the increased margin Monster’s turned in last quarter.

However, margins would not look so hot without Coca Cola’s concentrate business: Here is a quick analysis for you bulls who will hold on to any outlandish justification for this crazy valuation.

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Note: the above margins are not adjusted for lower margin Monster non-energy drink assets, which were divested to Coke and are no longer a part of Monster's business (they are not disclosed). (Refer to the important graph on page 5 to quantify the effect of the brand exchange with Coke, as derived from Coke’s disclosures. )

Based off of these assets transfers, plus a price increase on Monster Energy drinks in the U.S., Monster hit high EBIT margins of 38% in Q3-2015 for the first time, despite hovering around 29-31% for the last few years. The only way for analysts to justify their stock target is to have this company expanding margins while going into China- Not Happening. As we see the truth from Coca Cola.

MNST Margins | The Real Story

3Ms

Pre-KO Transaction Post KO Transaction

30-Jun-14 30-Sep-14 30-Jun-15 30-Sep-15

Q2: 3 months Q3: 3 months Q2: 3 months Q3: 3 months

Overall

Revenue $683 $632 $691 $748

Operating Income(1) $212 $186 $225 $283 Overall business appears to have

Operating Margin 31% 29% 33% 38% improved margins in Q3-15

Finished Product

Revenue $643 $594 $651 $687

Operating Income $254 $231 $252 $290 Core business OM is however not

Operating Margin 40% 39% 39% 42% that much better than prior periods

Concentrate

Revenue - - $13 $70

Operating Income - - $9 $45 Large contribution from acquired

Operating Margin n/a n/a 70% 65% assets from Coca Cola

Overall ex-Concentrate Business

Revenue $683 $632 $678 $678

Operating Income(1) $212 $186 $216 $238 Adjusted OM ex-KO assets do not

Operating Margin 31% 29% 32% 35% illustrate as material gains in Q3-15

(1) Operating incomes and revenues are adjusted for one-time gains and losses

Note: above margins do not include any corporate costs and thus are implicitly higher than overall contemplated MNST margins

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“Gross profit will be negatively impacted, despite the structural benefit at

net revenue, primarily due to the loss of concentrate profit on KO's legacy

energy brand.”

This statement from Coca Cola makes clear that it offloaded its more profitable energy drink assets for non-energy drink assets, and that Monster will receive a one-time benefit from Coca Cola’s energy drink assets, which are wasting assets.

Future Products

Analysts want investors to get excited about new products being launched by Monster. But let’s be honest here. Rob Gronkowoski is a great football player, but an energy drink call “Gronk” isn’t exactly going to move the needle for a $30 billion company, and probably won’t sell well to Giants or Jets fans. All new products introduced by Monster simply cannibalize the existing product line -- this is not exactly Mondelez.

At the end of the day, Monster is not a product company with a broad suite of unique products. It is a marketing company that is trying to differentiate its brand from other similar products. As admitted by GS in a conference.

Coke says: “On the Monster program, we're extremely excited about that. I think Monster is a premier marketer.”

-- Goldman Sachs Global Staples Summit May 5, 2015

So a solid marketing company is worth a valuation that "monsters" its

competitors? NO!

Mandatory Reading For Shareholders Fund manager John Davies wrote an insightful article on Seeking Alpha that describes the declining growth of Monster Beverage, drawing eery comparisons to the wine cooler craze of the 1980’s. This is required reading for investors. In the article Davies notes : From 2000 to 2010, the global energy drink market grew at 20% p.a. From 2010 to 2015, the global energy drink market grew at 11% p.a.

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From 2015 to 2019, the global energy drink market is estimated to grow at 7-10% p.a. (wide range of projections and we would take the "under" on any Hi/Lo proposition).

http://seekingalpha.com/article/3692476-monsters-mephistophelian-wilde-ride-short-on-

decelerating-fundamentals-and-category-re-rating

Analysts: Read Before You Respond

For the past 7 years, Wall Street research analysts have practiced the dark art of justifying a sky stock price by backfilling their model to try and support a current nosebleed price level. The beverage analysts are no different.

Not to pick on Goldman Sachs, but when you are the biggest, it is only inevitable. Last year Green Mountain Coffee hit the same exact stock price that MNST is currently trading (around $140). Goldman came out and stamped a $185 target on GMCR. Over the next 9 months the stock plunged to $40 a share -- 79% below Goldman's target, before a bail out by JAB at $90 (still over 50% below Goldman’s peak target). Oh, by the way, the GMCR Goldman analyst is the same one covering MNST! The analysts could not have been more wrong. But we know ... this time it will be different.

http://www.realistinvestor.com/company-watch-keurig-green-mountain-inc-nasdaqgmcr/5700/

The Headline Risk for Monster Beverage, 2016 Edition – Could MNST have a “Chipotle Moment”?

The stock price of Monster Beverage has climbed as if its business has rid itself of all of the risks in that have shadowed the energy drink market for years -- but in reality it has only gotten worse. Citron is not going to dedicate too much time going over the danger of energy drinks -- the risk is self-evident and something that the bulls and bears can probably agree on.

The risks are particularly high with respect to consumption by adolescents and young adults.

Instead of repeating history and what has been shouted over and over, Citron will present just three NEW stories from the past 60 days. This illustrates that just because the risk has been acknowledged does not mean it has gone away....or priced in.

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Teenager who consumed FIVE cans a day blames them for her heart

condition and two miscarriages

(Jan 18, 2016)

http://www.dailymail.co.uk/health/article-3404923/This-happens-spend-childhood-drinking-energy-

drinks-Teenager-consumed-FIVE-cans-day-blames-heart-condition-two-miscarriages.html

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More Danger of Energy Drinks on Teens (Jan 16, 2016)

http://www.forksforum.com/news/365326601.html

And just to prove that we are not just relying on cheap sensationalistic news blips, we defer to a brand new study -- just two months old -- from the Mayo Clinic, published in the JAMA, that shows the dangers of drinking even one energy drink.

http://newsnetwork.mayoclinic.org/discussion/mayo-clinic-study-one-energy-drink-may-increase-heart-

disease-risk-in-young-adults/

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The Senators that Forever Changed Big Tobacco are after Energy Drink Makers to Stop Marketing to Youth

https://timedotcom.files.wordpress.com/2015/01/2014-12-30-report_buzzkill_energydrinks_screenv.pdf

To read the findings of the investigations, see the appendix at the end of this story.

Meanwhile, despite the health risks and governmental focus, Monster has continued to market its products aggressively to teens because it knows they are the lifeblood of its business. This is a CURRENT marketing campaign from Monster's own website … who do you think this targets?

www.monsterenergygaming.com

“Overall, four out of 12 responding energy drink companies (Dr. Pepper Snapple, Red Bull, Monster, and Rockstar) demonstrated significant gaps in making commitments to protect adolescents from targeted marketing campaigns. These four companies represent approximately 90 percent of US energy drink sales.”

-- A report written by the staff of Senator Edward J. Markey (D-MA)in coordination with the staff of Senators Richard J. Durbin (D-IL), and Richard Blumenthal (D-CT

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For years, critics have thrown the concern about government regulation at Monster Beverage, and the company has obviously ignored the warnings. The fact that Monster continues this type of youth-oriented marketing only emphasizes how critically important the teen market is to their business model.

Citron has seen this story before: government action is slow, but when they come down, it is for real. Look at the impacts on former Citron subjects Apollo Group (APOL), Valeant (VRX) and World Acceptance (WRLD).

Government regulation could take the form of one or more of these many actions, and they will impact Monster's bottom line:

Suspend sales to anyone under the age of 18, which is currently a bill in Massachusetts. https://malegislature.gov/Bills/189/House/H2023

Regulate Marketing to teens

Potential tax on all energy drinks (a risk disclosed in Monster's 10-K)

Regulation by FDA

Warning Labels as required by FDA if it were forced to revert its labelling to "nutritional product" instead of "food / beverage"

While it does not appear any of these risks will hit by tomorrow, it is naïve for any investor to discount these risks to zero, blindly trusting multi-year CAGR and gross margin projections extended mindlessly into the future.

Health concerns have slowed Monster sales before:

http://seekingalpha.com/article/1416921-monster-beverage-management-discusses-q1-2013-results-

earnings-call-transcript?part=single

“The softness in the energy drink market that I alluded to in my previous conference call on February 27, 2013 continued through the first quarter of 2013, we believe, partially due to the ongoing negative publicity that continues to appear in the media, questioning the safety of energy drinks and suggesting limitations on their ingredients, including caffeine and/or the levels thereof and/or minimum age restrictions for consumers. In some of our international markets, the energy drink category also appears to have slowed in the quarter.”

-- Rodney C Sacks , Chairman and CEO, Monster Beverage Corp --Q1 2013 Conf Call May 8, 2013

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Conclusion

Citron is not saying that Monster misses its next quarter, necessarily. We're not even stating that the company's business isn’t successful or valuable. We are just saying that it will never grow into its valuation. That said, if anyone ever wanted exposure to Monster Beverages, why not just follow the biggest beverage company in the world? Buy Coca Cola; you get superior diversification, as well as a 17% position in Monster ... without the reputational risk.

Cautious Investing to All

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Appendix: Senators' Findings in Report on Energy Drinks

https://timedotcom.files.wordpress.com/2015/01/2014-12-30-report_buzzkill_energydrinks_screenv.pdf

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Appendix: Other recent headlines:

Nov 17, 2015: A Randomized Trial of Cardiovascular Responses to Energy Drink Consumption in Healthy Adults (source) – “Energy drink consumption has been associated with serious cardiovascular events,1- 4 possibly related to caffeine and other stimulants.”

Nov 8, 2015: One energy drink may increase heart disease risk in young adults (source)

Jan 4, 2016: Energy Drinks Are Basically Poison Says Science, Common Sense (source)

Jan 20, 2016: The dangers of energy drinks for kids (source)

Jan 12, 2016: Energy drinks are all the buzz. But they may also be dangerous (source)

Jan 14, 2016: Energy drinks can be the enemy of good sleep (source)

Jan 13, 2016: Makers of 5-hour Energy drink agree to deal over allegations of misrepresenting product’s benefits (source)

Jan 8, 2016: Monster Drink Contents Lawsuit Lobbed Back to State Court (source)

Jan 10, 2016: Why adding a spoonful of sugar to water is ‘better than energy drinks’ (source)

Dec 31, 2015: Is Monster Energy Drink Ad Jargon Dangerous or “Mere Puffery”? (source)

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Appendix: Deaths NOT in FDA Adverse Events Database

CAERS, but Referenced in the Press

Note that as per the article highlights 34 reported deaths linked to energy drinks between 2004

and 2014. As such the following list is incomplete.

Selected Energy Drink Related Deaths

Date of

Article

Date of

Death

Name of

Deceased Age Brand

Amount

Consumed Location Source

22-Jul-15 2015

Dean

Wharmby 39 N/A 7-8 cans/day Rochdale, UK Fox News

04-Dec-15 2014 Kurt Schmitz 22 N/A 1 energy drink

New Jersey,

US

The

Collegian

03-Sep-14 2014 Michael Clarke 35 Mother 4-500ml

Perth,

Australia Daily Mail

18-Jun-14 2014 Lanna Hamann 16 N/A N/A Arizona, US NY Daily

05-Feb-14 2014 Joshua Merrick 19 Animal Rage N/A UK Daily Mail

09-Jul-14 2012 Shane Felts N/A Monster

1/day for 2

weeks prior

Kansas City,

US KSHB

27-Mar-15 2012 Alex Morris 19 Monster 2 16oz California, US

Global

Newswire

28-Oct-13 2011 Cory Terry 33 Red Bull

regular drinker,

drank before

death New York, US

Huffington

Post

23-Oct-12 2011 Anais Fournier 14 Monster 2 24oz/2 days Maryland, US WebMD

05-Feb-14 2009 Tyler Johns 11 N/A N/A Bolton, UK Daily Mail

18-Nov-12 2008

Brian

Shepherd 15 Red Bull 1 can

Toronto,

Canada The Star

05-Feb-14 2008 Chloe Leach 21 Red Bull 4 cans

Cottingham,

UK Daily Mail

18-Nov-12 2006 Not Named 15 Monster N/A Canada The Star

18-Nov-12 Pre-2012 Not Named 18 Red Bull N/A Canada The Star

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Appendix: Why The Above Deaths Aren’t Reported to the FDA

The True Impact of an Innocuous-Looking Label Change…

http://www.nytimes.com/2013/03/20/business/in-a-new-aisle-energy-drinks-sidestep-rules.html?_r=2

Before After

And When Someone Demands Accountability for them, Monster has Made Sure the Data Won't be There!

In 2013, Monster relabeled their cans as a food (beverage) rather than as a nutritional supplement. Why? Supplement labeling was OK, it offered broad protections under the FDA's GRAS (Generally Regarded as Safe) "safe harbor" for Monster's ingredients. With no actual change to the product ingredients inside the can, what was their real motive?

“Fans of Monster Energy, the popular high-caffeine energy drink, may not notice the change: its ingredients will be the same and its familiar label bearing a green, clawlike monogram will change only slightly. But the drink’s maker has decided after a decade of selling it as a dietary supplement to market it as a beverage, a switch that will bring significant changes in how it is regulated.”

-- New York Times, March 19, 2013

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The company was “no longer required to tell federal regulators about reports potentially linking its products to deaths and injuries.”

http://www.nytimes.com/2013/03/20/business/in-a-new-aisle-energy-drinks-sidestep-rules.html?_r=3

Consider the FDA's requirement that adverse events for nutritional products are reportable into the FDA's voluntary adverse events database. Up to 2012, there had been 34 deaths attributed to energy drinks posted. Of course, these databases are statistically inconclusive -- reporting is voluntary -- so statistical accuracy isn't conclusive. But at least there's someplace to look when patterns of unsafe consumption begin to emerge. And here's where the trail ends....in 2012.

http://www.fda.gov/Food/NewsEvents/ucm328536.htm

By executing this simple label change, the company shut down the US public's ability to see data on adverse events attributable to energy drinks.

Think about it. No Doz, sold for decades over the counter as an "Alertness Aid", has warning labels, and adverse event requirements. But delivering the same caffeine dose, a Monster Energy drink has no such labeling. No dosing info on the label, and no warnings, not for kids, or people with cardiac irregularities, nobody.

If it turns out that energy drinks can expose certain groups with cardiovascular vulnerabilities to risks beyond a safety threshold, or if they increase the likelihood that partygoers mixing alcohol with energy drinks will be induced to drive while drunk, or a variety of difficult-to-guess interactions are already threatening the health of subgroups of consumers, this label change stifles the public's ability to know. As it cut off the list of individuals who died after consuming energy drinks as of 2012. (See here and here.)

This is a recipe for a high-profile class-action suit; and we're not talking about one of those bogus shareholder suits cooked up by opportunistic attorneys. We're talking about somebody who has lost a loved one and dispatches their attorneys to make very public this iconic moment of corporate non-accountability.

Now do you understand why Coca Cola divested its entire energy drink portfolio to Monster?