The fried chicken chain said last week that it would begin replacing PepsiCo’s namesake soft drinks with Coca-Cola products at its 3,700 U.S. restaurants in January. The two companies’ partnership stretches back 40 years, since the time PepsiCo bought the fast food chain. (PepsiCo spun KFC off in 1997.) KFC represents a tiny sliver of Pepsi sales, but the defection reflects the ongoing deterioration of the drink’s brand power.

How Coke pulled ahead

For decades, the Coke vs. Pepsi cola wars were a part of mainstream culture, with memorable ads showcasing blind “Pepsi Challenge” taste tests of the two drinks. Pepsi’s TV commercials with pop star Michael Jackson and model Cindy Crawford in the 1980s and ’90s became part of the larger zeitgeist. Back then, Coke’s U.S. market share was just a percentage point or two more than Pepsi’s. 

It’s a very different story now. Last year, Pepsi-Cola had 8.1% of the U.S. carbonated soft drinks market by volume last year, far behind Coke’s 18.5%, according to trade publication Beverage Digest. In 2024, Pepsi fell to third place behind Dr. Pepper for the first time and remains there. What’s more, sales of Diet Coke and Coke Zero are multiple times higher than their Pepsi counterparts.

Pepsi didn’t so much collapse as get outmaneuvered. Coke has reshaped its business around brand building and innovation, shedding its capital-intensive bottling business and successfully betting on faster-growing categories like dairy-centric and protein-based drinks. PepsiCo has remained a sprawling portfolio company where soda was one priority among many, and one that got less attention than it used to. The result is a PepsiCo that generates more than twice as much revenue as Coca-Cola but whose market valuation is only about half as big.

Soda on autopilot

Wall Street analysts say that for years PepsiCo CEOs have turned their attention away from the company’s soda business in North America because of what was long seen as soda’s secular decline. And it’s true that soda sales slumped for 16 straight years. But starting in 2021, the U.S. soft drinks industry stabilized, with Americans gravitating toward healthier and more functional beverages, like those featuring protein and energy additives. PepsiCo CEO Ramon Laguarta has admitted that the still-massive business deserves more attention. 

“We do not feel good about the beverage business,” Laguarta told Wall Street analysts earlier this month. “So we are putting all the urgency of the business and focus on improving our performance in soft drinks.”

Last quarter, PepsiCo’s $28 billion North American beverage business shrank 2% by volume. That decline occurred even as its non-soda drinks business—including Gatorade, Aquafina and Ocean Spray—improved, suggesting deeper declines for its soft drinks. (PepsiCo does not break out subdivisions within its beverage segment.)

PepsiCo is a behemoth of a food and snacks and beverage company, taking in nearly $94 billion in revenue last year. Some 58% of that came from its Frito-Lay food and snacks division that includes Fritos and Doritos chips and its Quaker brand. Its beverage business generates the rest of the revenue, with a full 30% coming from North American beverages.

Qilai Shen—Bloomberg via Getty Images

The company’s North American Frito-Lay unit has regularly reported operating profit margins twice as large as the domestic beverage business. As a result, the snack business has earned the parent company’s investments at the expense of soft drinks, which PepsiCo has left to run on autopilot, Beverage Digest editor and publisher Duane Stanford told Fortune.

“It worked so long as the Frito-Lay continued to be a powerful engine,” said Stanford. The problem now is that PepsiCo’s North American snacks business is under pressure as inflation-wary consumers balk at high prices. Sales are flat so far this year. Earlier this year, Bloomberg reported that prices for some of PepsiCo’s chips had risen 50% since 2021. At one point, a party-size bag of Tostitos cost $7.29. Consumers have pushed back, and PepsiCo cut snack some prices this spring.

No one should expect any quick relief for PepsiCo’s snacks business, which has a 38% share of the $80 billion U.S. savory snacks industry. “It’s tough to forecast much sequential improvement absent a material change in the consumer macro environment,” JPMorgan analyst Andrea Teixeira said. That puts even more pressure on PepsiCo’s beverage business to shape up.  

Laguarta’s earnings call comments suggest the company will try to lift soft drink sales by building the brands of its soda lineup that include Pepsi, Mountain Dew, and Poppi, a prebiotic soda it bought last year for $2 billion. That investment will likely mean pouring more money into marketing and advertising, paying retailers for more shelf space and presentation, and lowering prices as needed.

Is a breakup the answer?

Over the years, activist investors have proposed a far more radical solution to PepsiCo’s woes: split up the sprawling portfolio company.

In the 2010s, investor Nelson Peltz spent two years trying—ultimately unsuccessfully—to convince PepsiCo to separate its food and beverage businesses into two companies to better “unlock” the value of each.

More recently, investors have pushed PepsiCo to follow some of the moves employed by Coca-Cola, which has no food business and relies on franchisees—rather than its own facilities—for its bottling and manufacturing needs.

A year ago, Elliott Management called PepsiCo a “dramatic underperformer” and urged it to consider, among other things, re-franchising its company-owned bottlers. In 2010, both Coca-Cola and PepsiCo acquired their bottlers believing that a vertically integrated approach to production and distribution was essential. Coke quickly reversed the decision, which has reduced the cost pressures stemming from the capital-intensive activity. It also freed Coke to invest in brand building and innovation, two strengths that helped sway KFC to switch to Coke.

“A new partner in Coca-Cola gives us a platform to innovate, meet changing tastes and give customers more reasons to choose us,” KFC U.S. president Catherine Tan-Gillespie wrote in a memo to staff. (Since KFC dropped Pepsi, fast food rival Taco Bell has extended its contract with Pepsi for another 10 years.)

Laguarta surprised analysts earlier this month with the mere mention of re-franchising; he said it could lead to “better execution and potentially better margins.” At the same time, re-franchising shouldn’t be seen as a panacea, analysts warned. “If ‘accelerated’ re-franchising is indeed the right path, [but] this would not be without significant disruption,” Barclays’s Lauren Lieberman wrote in a note. Analysts say it could take a decade or more to re-franchise entirely: Coca-Cola’s re-franchising took a decade or so to pay off. 

“We’re open to revisiting every option,” the CEO of eight years said on the earnings call. A PepsiCo spokesman declined to comment on re-franchising beyond the CEO’s remarks.

PepsiCo does have one beverage bright spot that could serve as a model going forward: Gatorade. The drink’s sales have risen this year (the company does not quantify those gains) thanks to updates such as the March launch of its lower sugar variation. Beverage Digest’s Stanford thinks PepsiCo can indeed rebuild its soda drinks empire, but doing so will require a shift in mindset after years of the board and CEOs seeing soft drinks as products with dim growth prospects. 

“Everyone counted carbonated soft drinks out and now we see that was a mistake,” he said of PepsiCo leadership. “This is a conglomerate that knows how to execute. They just have to make the decision to do it.”