Pepsico (PEP) Dividend Stock Analysis

Summary

-Pepsico (PEP) is a leading international beverage and snack-food company.
-Five year average revenue growth: 8%
-Five year average earnings growth: 8%
-Five year average cash flow growth: 10%
-Current dividend yield: 2.8%
-Five year dividend growth has been 15%, though this year’s dividend growth was 6%.
-The company is pursuing and emphasizing healthier beverage and food brands.
-I’m favorable for this stock as long as it remains below or dips under about $68 per share.

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Overview

Pepsico (symbol: PEP) is one of the leading beverage and snack food companies in the world. Although Pepsi-Cola is their largest brand, the company extends far beyond merely that single brand into a variety of beverages and snacks. PEP is a consistent dividend performer.

Brands

Pepsico has the following main brands:

Pepsi- carbonated beverages like Pepsi, Mountain Dew, Sierra Mist, Sobe Lifewater, Amp, and their water brand Aquafina
Frito Lay- chips and snacks like Lays, Doritos, Tostitos, Sun Chips, and 100 Calorie Snacks
Tropicana- fruit juices
Quaker- Healthy food choices like Quaker Oats, Life cereal, and Granola bars
Gatorade- sports drinks and Propel fitness water

Revenue Mix

-Pepsico food brings in 63% of revenue while beverages bring in the remaining 37%.
-Pepsico has 52% of its revenue coming from the US and 48% coming from other countries. Besides the United states, the largest amount of revenue came from Mexico (7%), Canada (5%), and the United Kingdom (4%).

Revenue, Earnings, Cash Flow, and Margins

PEP has seen a slowdown in their growth over the past few years, but overall the company is healthy and expanding, and most of their money goes back to create shareholder value.

Revenue Growth

Year	Revenue
2009	$43.2 billion
2008	$43.3 billion
2007	$39.5 billion
2006	$35.1 billion
2005	$32.6 billion
2004	$29.3 billion

Pepsi has seen over 8% average annual growth over the past five years. Although revenue did not increase for 2009, according to PEP’s 2009 annual report, revenue in 2009 increased by 5% over 2008 in terms of constant currency. So, fundamental business expansion has been decent.

EarningsGrowth

Year	Earnings
2009	$5.9 billion
2008	$5.1 billion
2007	$5.6 billion
2006	$5.6 billion
2005	$4.5 billion
2004	$4.0 billion

Pepisco has also seen 8% average earnings growth over the past five years.

EPS (Earnings-per-share) growth for 2010 and 2011 is estimated by analysis to be 12% per year. This of course factors in share repurchases which make EPS grow faster than company-wide net earnings. Still, I’m cautiously impressed by the analyst positive outlooks.

Cash Flow Growth

Year	Cash Flow
2009	$6.8 billion
2008	$7.0 billion
2007	$6.9 billion
2006	$6.1 billion
2005	$5.8 billion
2004	$4.3 billion

Pepsico has seen nearly 10% annual cash flow growth over the past five years.

Profit Margin

PEP has a net profit margin of 14% which it has maintained over the last 5 years or more. This is lower than the profit margin of Coca Cola because PEP sells both snacks and beverages while Coke sells only beverages, which typically carry a higher profit margin. For some perspective, Kraft has a profit margin of only 8%.

Dividend Growth

PEP is currently rocking an over 2.8% dividend yield. Looking through its dividend yield history, one sees that Pepsico’s yield has steadily increased over the last several years. This is due in part to a quickly increasing dividend, but is also due to the fact that for the last several years Pepsico has been too highly valued and is now at a more reasonable stock price.

Dividend Growth

Year	Dividend	Yield
2009	$1.775	3.10%
2008	$1.65	2.60%
2007	$1.425	2.20%
2006	$1.16	1.90%
2005	$1.01	1.85%
2004	$0.85	1.70%

Pepsi has grown their dividend by over 15% annually over the last 5 years, though going into 2010 the dividend increase is down to a respectable 6%.

Share Repurchases

Pepsico had a net $9 billion share repurchase between the three years of 2006, 2007, and 2008.

As of 2010, Pepsico authorized a repurchase of up to $15 billion worth of stock through 2013. With a market cap of a little over $100 billion, this represents about 15% of company stock.

Balance Sheet

Pepsi has a strong balance sheet with a current ratio of 1.00 and a LT debt/equity ratio of 0.44. Interest coverage is over 21. Pepsi is employing a conservative amount of debt to grow its business.

Investment Thesis

Based on activity over the last few years, Pepsico seems to have a very high quality management team. Coca Cola, the larger beverage company, has actually been playing catch-up to Pepsico in terms of business actions. Pepsico began making healthier acquisitions, and Coca Cola is finally realizing the health trend and doing the same. Pepsico acquired bottling operations, and later Coca Cola did the same.

The Chairman and CEO, Indra Nooyi, seems to have an excellent vision for Pepsi. She has overseen the divestiture of KFC, Taco Bell, and Burger King and the acquisitions of Tropicana and Quaker, radically transforming the health value of the company’s products.

On February 26, 2010, Pepsico completed its mergers with PepsiAmericas and the Pepsi Bottling Group so that the combined company could control cost and develop beverages and get them to markets more quickly. Coca Cola copied this move and acquired their largest North American bottler as well. These are strategies to turn around their falling North American carbonated beverage sales.

Pepsico’s financial objective is to grow revenue at twice the world-wide real GDP growth rate while also increasing profit margins.

Pepsico’s sustainability objectives are many: increase healthy ingredients in foods, decrease sodium and added sugar in key brands by 25 percent, decrease saturated fats in key brands by 15 percent, only advertise healthy foods to children under 12, eliminate the direct sale of full-sugar soft drinks to primary and secondary schools by 2012, and to continue to contribute to wellness programs through their Pepsico Foundation.

Pepsico’s environmental objectives are also many: improve water and electricity efficiency by 20% by 2015, increase beverage container recycling to 50% by 2018, reduce packaging weight by 350 million pounds, and reduce fossil fuel usage per unit of production by 25% by 2015.

I’m extremely confident in Pepsico’s current management team to produce sustainable growth over the next several years. They’ve been making proactive decisions on growth while also realizing their health benefits and drawbacks and adjusting their product portfolio and advertising audience accordingly. I think their focus on health is a key advantage over Coca Cola, although Coca Cola has advantages of its own.

Risks

Pepsico operates in a relatively safe industry and has what appears to be a very high quality management team. There are always risks, however, and PEP is not immune. Their profits depend on commodity costs. There also seems to be a long-term downward trend of soda consumption in North America, meaning that Pepsico has to continually re-shape its business with healthier options if it is going to prosper in the long term. PEP also faces issues when it comes to using water, as water is a scarce resource in some parts of the world and it causes political and environment problems when a company as large as Pepsico uses too much water in a given region.

Conclusion and Valuation

With a great brand, huge international exposure, and a variety of healthy products, I feel that Pepsico is well positioned to grow its sales and profits for a very long time. The stock is currently trading at a slightly lower valuation than Coca Cola, with a P/E of about 17 right now. Although the stock is not a bargain, I feel that it’s a premier company trading at a reasonable price, and should present a fairly safe dividend growth investment into the next decade.

A nice thing about an investment in Pepsico is that most of the shareholder return comes from dividends and share repurchases. This grants a relatively secure return, and shows that the company is primarily focused on building shareholder value, which believe it or not is not a concern for some companies.

Full Disclosure: I do not own Pepsico stock at the time of this writing, but it is on my stock watch list for possible purchase.
You can see my full list of individual holdings here.

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