- Pepsi sells snacks and beverages while rival Coca-Cola mainly sells beverages.
- Pepsi resides in a position of market leadership.
- Pepsi stock is overvalued.
PepsiCo (NYSE:PEP) possesses many qualities that long-term investors should find compelling. It sells a wide range of products and has a history of giving its shareholders hikes in dividends. Pepsi also resides in a position of market leadership. Let’s examine the traits and qualities that make this company worth holding.
Pepsi Sells Multiple Products
Unlike Coca Cola (NYSE:KO), which largely sells beverages, Pepsi sells snacks, such as Frito Lay Potato Chips, and food, such as Quaker Oats, in addition to its liquid refreshments. I always thought that selling snacks represented an excellent strategy for Pepsi, serving as a buffer against declining soda volume. According to Beverage-Digest, carbonated soda volume has been on the decline since 2014. On that note, Pepsi America Beverages’ carbonated soda volume resided in the flat or negative range in every full fiscal year since 2011.
PepsiCo’s Frito Lay North American business represents the only segment that consistently grew operating income over the past five years (see table below). All other areas experienced more significant fluctuations, including falling into negatives ranges in some years. In FY 2014, Frito Lay’s operating income comprised 42% of the company’s total operating income. So far in FY 2015, it comprised 46% of total operating income.
|PepsiCo Operating Income Year-Over-Year Growth By Segment|
|Frito Lay North America||4.6%||6.3%||0.7%||7.3%||8.7%|
|Quaker Foods North America||0.6%||-11.2%||-12.8%||7.6%||-5.1%|
|Latin American Foods||-2.5%||17.3%||-1.8%||7.4%||11.1%|
|PepisCo America Beverages||-3.7%||0.6%||-10.3%||17.9%||27.8%|
|Asia, Middle East & Africa (AMEA)||-11.2%||57.2%||-15.8%||25.3%||1.1%|
|Total Operating Profit||-1.3%||6.5%||-5.4%||15.6%||3.6%|
Source SEC filings and author’s calculations
PepsiCo's Market Position
Pepsi resides in the No. 5 spot in terms of global beverage market share, according to the Bloomberg leaderboard. Moreover, the company owns 24% of the U. S. Liquid Refreshment Beverage Category and 36% of the U.S. Savory Snacks category. I call companies like Pepsi a “foundation of civilization” stock, which means its ubiquity garners economies of scale. This means it can profitably sell products at a lower price. Despite carbonated soda headwinds, the Pepsi brand remains solid. According to Interbrand, Pepsi ranks No. 24 on its 2015 brand list with a brand value of $19.6 billion, representing a 3% increase from last year.
PepsiCo Consolidated Fundamentals
PepsiCo’s growth has been at a slow and steady pace, especially its net income. Over the past five years its revenue, net income and free cash flow grew at a compounded annual growth rate (CAGR) of 9.1%, 1.8% and 10.4%, respectively. So far this year, Pepsi saw its revenue and net income decrease 5% and 28% year-over-year. PepsiCo’s free cash flow increased 3% year-over-year. Adverse currency translations muddy the waters here. When factoring out foreign currency exchanges, acquisitions and divestitures, PepsiCo’s organic revenue increased 3% year-over-year. Organic volume increased 1.5% in PepsiCo’s snack business and its beverage volume came in flat.
PepsiCo's Balance Sheet Analysis
In the most recent quarter, PepsiCo held $10.7 billion in cash and investments, equating to 79% of shrinking stockholder’s equity (due to share repurchases and accumulated other comprehensive loss). Long-term debt increased 11% since the end of FY 2014. It equates to 194% of stockholder’s equity versus 136% at the end of FY 2014. Year-to-date operating income exceeds interest expense by 9.4 versus 10.5 at the end of FY 2014, which is ok.
PepsiCo's Solid Dividend
PepsiCo resides on the dividend aristocrats list, meaning that PepsiCo consistently increased its dividend for at least 25 years. In fact, PepsiCo consistently raised its dividends for 43 consecutive years. The company has paid out a reasonable 56% of its year-to-date free cash flow in dividends. PepsiCo’s dividend equates to $2.81 per share per year, translating into a yield of 2.9% annually.
PepsiCo's High Valuation
Pepsi stock currently trades at a P/E ratio of 30, which compares unfavorably to Coca-Cola’s P/E ratio of 27 (see table below). These companies trade at a high valuation in a risky market. The S&P 500’s P/E ratio comes in at 19, according to Morningstar, which is at a five year high.
Retirees may want to consider Pepsi stock due to its solid dividend. Moreover, PepsiCo’s snack business picks up the slack of its struggling carbonated soda business. However, investors should expect some volatility due to its high valuation. Finally, investors may want to take a small stake in Pepsi stock, while buying more during corrections, more popularly called buying on dips. That way, they could lower the risks arising from valuations while still participating in a run up in the stock price.