Zahir Shaikh
Earlier in the year I discussed investing in solid, well run and well known companies for the long term. This is all the more imperative during uncertain economic times. Two such companies that merit our consideration are Procter & Gamble (NYSE: PG) and PepsiCo (NYSE: PEP). In the Spring Issue I covered P&G. In this issue, I will examine why PepsiCo has been so successful over the long run and how its structural advantages will continue to propel the company forward.
The beverage that became known as Pepsi was first developed in the 1880’s in New Bern, NC, by Caleb Bradham, a pharmacist and industrialist. Initially called Brad’s Drink, it was re-named Pepsi-Cola in 1898. PepsiCo was officially formed in 1965, when the Pepsi-Cola Company merged with Frito-Lay, Inc. The company has been a formidable competitor to Coca-Cola since the second half of the 20th century, and has grown to become a global giant, with over $65 billion of sales in 2012.
PepsiCo is a well-balanced powerhouse: net revenues are approximately 50% generated in the US and 50% abroad, and about 50% of revenues are from its Food Division.
Similar to P&G, PepsiCo’s brand portfolio is quite impressive. In 2012, PepsiCo had 22 brands with over $1 billion in sales each, including Pepsi and Diet Pepsi of course, but also consider the popularity of Mountain Dew, Aquafina, Gatorade, Tropicana, Doritos, Lays, Tostitos and Quaker Oats.
So here’s the big question everyone reading this article is probably asking, why invest in PepsiCo over Coca-Cola?
Balance
Ironically, I realized I am writing this as I am sipping a Diet Coke, but in my house we buy whichever cola is on sale, and that is likely the case in many households. The majority of the public does not have a strong preference of Pepsi over Coke or Coke over Pepsi when both brands are readily available. While Coke is the world’s most distributed product and the third most recognized brand (behind Apple and Google), the differentiating factor in PepsiCo’s favor is its strength in snack foods and non-carbonated drinks, including Gatorade.
As PepsiCo’s CFO Hugh Johnston recently said in a CNBC interview, “When it’s hot out, Gatorade sells. When it’s cold out, Quaker sells better. When it’s a great summer, there are a lot of parties, and Frito Lay tends to do really well. When it’s cold and flu season, Tropicana does well.” However, Coca-Cola generates about 70% of its revenues just from carbonated soft drinks.
Not only do snack foods and other products provide revenue balance, but they also boost operating margins. This of course means profitable growth! Year-to-date, PepsiCo has outperformed Coca-Cola and it is reflected in its share price, up over 20% vs. only 7% year-to-date for Coca-Cola.
Healthier Consumption Trends In its mature markets, there is a momentum shift away from sugary soft-drinks due to obesity concerns. As this trend continues and expands into developing markets, PepsiCo is better positioned than its chief rival. In recent years, PepsiCo has launched more baked snack products and the company reports that in the U.S., low- or no-calorie beverages, active hydration and juice products accounted for 49% of its 2012 beverage volume.
As healthier food and beverage trends represent a growing challenge, PepsiCo is taking a leadership role to shape its industry. Chairwoman and CEO, Indra Nooyi, is currently the chair of the Healthy Weight Commitment Foundation (HWCF), a U.S. effort designed to help reduce obesity especially childhood obesity – by 2015. It is a coalition of more than 150 retailers, food and beverage manufacturers, restaurants, sporting goods and insurance companies, trade associations and NGOs and professional sports organizations.
Recent Stock Performance So let’s discuss the valuation of PepsiCo stock. Currently at $82 per share, PepsiCo’s share price seems fairly valued. They are valued at 19x trailing twelve month earnings per share, vs. 20x for Coca-Cola. PepsiCo’s dividend continues to grow and the company has plans to buy back up to $3 billion of its shares in the near future, both of which are good indicators of financial strength and continued share price growth. PepsiCo’s shares are worth considering for longer term investing and in the event they decline below $80 per share due to an overall market drop, they become even more attractive.
Full disclosure: I do not have a financial position in any of the companies mentioned above nor do I intend to initiate positions within 72 hours of the date of this publication.