Why is the Quaker Man smiling?

These days his happy visage seems oddly inappropriate. Quaker Oats Co. is floundering in a sea of iced tea and fruit juices that cost it a fortune. Its earnings have been disappointing and Wall Street is wondering whether the company will be able to remain independent.

Last week, Quaker reported fiscal fourth-quarter earnings after unusual items of just 15 cents a share, down from 65 cents a year ago. Sales in the quarter slipped 2 percent to $1.59 billion, reflecting divestitures made to pay for the $1.7 billion acquisition of Snapple Beverage Corp. in November. Operating results from Quaker's combined U.S. and international businesses that weren't sold or acquired were $140 million below the year-earlier quarter.

Snapple was a purchase Quaker's management thought would bolster its Gatorade beverage line, set it on course toward a future where ``good-for-you'' foods would yield pleasing results, and where Quaker's stock price would deter acquisitors. Now, nine months later, some are wondering whether Quaker swallowed too much. ``The category now is fundamentally different from what it was last summer,'' says Oppenheimer & Co. analyst John O'Neil. ``Last summer, Snapple was growing at 35 percent and had almost 20 percent profit margins. Now it's not growing and they're not making any money.''

Moreover, he notes, both Snapple and Gatorade were able to flourish with little competition. Now that's changed, with Coca-Cola Co. and PepsiCo Inc. aggressively going after both beverages. ``That will lead to (further) margin deterioration and volume weakness,'' Mr. O'Neil predicts.

Others on Wall Street are equally dour. ``The only positive I see is that we're having a very hot summer and that should help somewhat,'' says Goldman, Sachs food analyst Nomi Ghez of Quaker's earnings. While Gatorade continues to do well, she worries that its performance ``made them complacent and caused them to believe they could manage well any beverage deal. But Snapple is very different from Gatorade.''

Quaker's troubles extend beyond beverages, which now account for 35 percent of sales and 18 percent of pretax earnings. Its ready-to-eat cereals business has been losing market share lately, following a disappointing winter for hot oatmeal.

Despite heavy marketing expenditures, cold-cereal volumes dropped 12 percent in the latest four weeks and 6 percent in the latest 12 weeks. Cap'n Crunch, Quaker's leading brand, lost 17 percent of its volume in the 12 weeks ended June 18, while Quaker's Toasted Oatmeal lost nearly 10 percent, according to Information Resources Inc.

And the takeover speculation hasn't abated. With Quaker shares in the mid-30s, ``the stock is clearly trading well above where it should be'' based on fundamentals, Ms. Ghez says. Last week, Quaker closed at $34.25, down 37.5 cents from Thursday, in New York Stock Exchange composite trading.

To pay for Snapple, Quaker sold off its large pet-food unit and some smaller businesses. In a report analyzing the impact of those changes, Ms. Ghez notes that ``the company spent $1.9 billion on businesses that are now expected to contribute only $12 million or so in operating profits in calendar 1995, while divesting businesses with annualized earnings of $110 million for only $1.2 billion.''

She questions Quaker's exit from pet foods, calling them ``solid businesses and good cash generators.'' Besides cereals, Quaker's other businesses include Aunt Jemima breakfast foods, Rice-A-Roni, rice cakes and chewy granola bar snacks. As for Snapple, the analyst expressed ``growing concerns as to the company's ability to achieve a reasonable return'' on the maker of so-called New Age drinks.

Even before the deal was announced, Snapple management was cutting internal earnings projections. Still, Quaker was excited about the acquisition, and many investors figured that with its experience in making Gatorade a global drink, Quaker would easily assimilate Snapple.

No such luck. Plans to meld the two brands' distribution systems ran into a feisty, independent group of Snapple distributors. ``Gatorade carries a far smaller margin, so the net effect was very negative,'' said one Midwestern bottler who handles Snapple. ``It was not in our best interests economically'' to accept.

Eventually Quaker backed off, but its initial bungling cost it goodwill as well as two precious months of planning during the winter off-season. Competitors smelled blood, cut prices and bombarded supermarkets with alternative products.

MORE