PepsiCo: Much more than a soft drink company

People often perceive PepsiCo as a soft drink company, but its convenience food division actually generates more revenue than its soft drinks. PepsiCo owns some of the most well-known brands in the beverage and snack industry. Frequently, well-known brands are regarded as sound investments. But is this also the case with PepsiCo? In this analysis, I will examine PepsiCo as an investment.

This is not a financial advice. I am not a financial advisor and I only do these post to do my own analysis and elaborate about my decisions, especially for my copiers and followers. If you consider investing in any of the ideas I present, you should do your own research or contact a professional financial advisor, as all investing comes with a risk of losing money. You are also more than welcome to copy me.

Since I have attended the workshop with Phil Town, I have decided to change the layout of my analyses a bit. I will do some more calculations and briefly go through why the company has meaning to me. If you want to read more about how I evaluate a company, please go to "MY STRATEGY" on my website.

For full disclosure, I should start by mentioning that at the time of writing this analysis, I do not own any shares of PepsiCo. If you would like to view the stocks in my portfolio or copy my portfolio, you can do so on eToro. Instructions on how to do so can be found here. I don't own any stocks in PepsiCo's competitors either. Thus, I have no personal stake in PepsiCo. If you want to purchase shares or fractional shares of PepsiCo, you can do so through eToro. eToro is a highly user-friendly platform that allows you to start your investment journey with as little as $50.

While Pepsi-Cola has been around since 1893, PepsiCo was formed in 1965 as a result of the merger between the Pepsi-Cola company and Frito-Lay. I believe that most people are familiar with PepsiCo. The company is probably best known for its beverages, such as Pepsi-Cola, 7UP, and Mountain Dew. However, they have many other famous brands in their portfolio, not only within the beverage industry but also including Rockstar Energy, Gatorade, and SodaStream. PepsiCo also owns 8,5% of CELCIUS energy drink, as they acquired this stake as part of a distribution agreement between the two companies. PepsiCo also owns snack brands such as Lay's, Cheetos, and Doritos, as well as Quaker Foods, known for its oat products. In the end of 2023, convenience foods contributed 59% of the revenue, while beverages contributed 41% of the revenue. PepsiCo generates 61% of its revenue in North America and 39% internationally. Europe is the largest market internationally, contributing 14% of the total international revenue. PepsiCo's extensive portfolio of brands ensures that its products are enjoyed by consumers more than one billion times a day in over 200 countries worldwide, at any time of the day. PepsiCo undoubtedly possesses a significant brand moat.

The CEO is Ramon Laguarta. He has been the CEO since 2018. He is the sixth CEO in the company's history. He has a bachelor's and a master's degree in Business Administration from ESADE Business School in Barcelona. Additionally, he has a master's degree in International Management from Thunderbird School of Global Management at Arizona State University. He joined PepsiCo in 1996 and has held various positions, including CEO of the Europe and Sub-Saharan Africa sector, President of the Eastern Europe region, and Vice President of PepsiCo Europe. In 2017, he became the global president of the company. He is described as one of the hardest-working and humblest global leaders. He is also known for his profound understanding of the business and his exceptional leadership skills. His vision for PepsiCo is to become the global leader in convenient foods and beverages. To achieve this, he has set aspirations to be faster, stronger, and better. He aims to be faster by winning in the marketplace through a more consumer-centric approach and by increasing investment for top-line growth. He aims to be stronger by transforming PepsiCo's capabilities, costs, and culture, and by operating as a unified entity. PepsiCo also leverages technology to succeed both locally and globally. Better by integrating purpose into their business strategy and doing even more for the planet and people. He also implemented a mission to "create more smiles with every sip and every bite." For shareholders, this means delivering sustainable top-tier total shareholder return and embracing best-in-class corporate governance. I obviously like that part. Finally, I should mention that Ramon Laguarta, according to Comparably, has a CEO rating of 72/100, which places him in the top 30% of companies of similar size. I appreciate the mission and vision, and I believe that Ramon Laguarta possesses the necessary experience and credentials to fulfill them. All in all, I have great confidence in the management at PepsiCo.

I believe that PepsiCo has a strong brand moat. I also like management. Now, let us examine the numbers to determine if PepsiCo meets our criteria for having a strong competitive advantage. In case you want an explanation about what the numbers represent, you can refer to "MY STRATEGY" on the website.

The first number we will look into is the return on invested capital, also known as ROIC. We require a 10-year history with all figures exceeding 10% for each year. PepsiCo has managed to deliver a Return on Invested Capital (ROIC) above 10% every year for the past ten years, which is very encouraging. It is interesting to note that despite the challenges posed by the pandemic in 2020 and 2021, PepsiCo was able to maintain a relatively high Return on Invested Capital (ROIC) of 13,2% in 2020 and 14,6% in 2021. PepsiCo has also managed to maintain a high Return on Invested Capital (ROIC) in both 2022 and 2023, despite being impacted by macroeconomic factors like high inflation. I believe that the numbers from the past four years indicate the high quality of the company.

The following numbers represent the book value + dividend. In my previous format, this was referred to as the equity growth rate. It was the most important of the four growth rates I used in my analyses, which is why I will continue to use it in the future. As you are accustomed to seeing numbers in percentage form, I have decided to provide both the actual numbers and the year-over-year percentage growth. The numbers are a bit mixed throughout the years, which could be explained by the numerous acquisitions and sales the company has made over time. For example, they acquired Rockstar Energy in 2020 and sold Tropicana in 2021, both of which had an impact on the numbers. It is positive to see that PepsiCo has reached its highest equity in the past two years, which is a promising trend that I hope to continue.

Finally, we will analyze the free cash flow. Free cash flow, in short, refers to the cash that a company generates after covering its operating expenses and capital expenditures. Levered free cash flow margin is used because I believe that margins provide a better understanding. Free cash flow yield refers to the amount of free cash flow per share that a company is expected to generate in relation to its market value per share. It is not surprising to see that PepsiCo has generated a positive free cash flow every year over the past decade. Free cash flow was affected by the challenges of 2022, but PepsiCo managed to deliver its second-highest free cash flow in 2023, which is encouraging. However, the levered free cash flow margin has not reached the double-digit level as we observed until 2017. Nonetheless, the levered free cash flow margin has recovered from its low in 2022, and I would like to see it increase moving forward. The free cash flow yield is the highest it has been since 2018, suggesting that PepsiCo is trading at its lowest valuation in some time. However, we will delve deeper into this later in the analysis.

Another important aspect to consider is the level of debt. It is crucial to determine whether a business has manageable debt that can be repaid within a period of 3 years. We do this by dividing the total long-term debt by earnings. Upon calculating for PepsiCo, I have determined that the company's debt is equivalent to 4,14 years' worth of earnings, exceeding the recommended level. However, I'm not avoiding PepsiCo because of this, as it is a well-established company, and I have confidence that they will remain financially stable. I still believe that the debt should be monitored, though.

Like with all other investments, investing in PepsiCo comes with some risks. I believe that reviewing the annual report is a beneficial method for gaining an overview of the company's risks. PepsiCo mentions competition as one of the key risks. In their annual report, they state that the beverage and convenience food industries are highly competitive. They face competition from international beverage and convenience food companies that operate in multiple markets, as well as from regional, local, and private label manufacturers. Especially, private label manufacturers could pose a problem for PepsiCo in the short term if a recession occurs, as private label products are cheaper. PepsiCo's products compete based on factors such as brand recognition, customer loyalty, taste, and price. It is suggested that PepsiCo may have raised prices excessively, as grocer Carrefour has decided to cease selling Pepsi products in certain parts of Europe due to "unacceptable price increases." Therefore, some of PepsiCo's competitors will gain PepsiCo's shelf space at Carrefour. Another risk that PepsiCo mentions is the potential decrease in future demand for their products. In their annual report, they state that consumer preferences are constantly evolving due to a variety of factors. One factor that could pose a threat to PepsiCo is the increasing consumer trend towards health consciousness, driven by rising concerns about obesity and other health-related issues. While PepsiCo may be able to adjust its beverage division to focus on sugar-free products, creating a healthier alternative for most of its convenience food division is more challenging. It is unknown how the introduction of GLP-1 obesity drugs will affect PepsiCo in the future. Even CEO Ramon Laguarta has mentioned that there are many uncertainties about how widely the drugs could be used and their potential impact on consumption. Product recalls. Product recalls or other issues or concerns regarding product quality and safety can negatively impact PepsiCo's business. PepsiCo had to recall specific Quaker granola bars and granola cereals in December due to potential Salmonella contamination. Recalls such as this one will adversely affect PepsiCo's business by resulting in losses due to the costs incurred, the destruction of product inventory, customer fines, returns, or lost sales due to the unavailability of the product for a period of time. Furthermore, recalls could also reduce consumer confidence and demand for PepsiCo's products in the future.

However, it isn't all bad, and there are plenty of reasons to invest in PepsiCo as well. One reason is international growth. Management has mentioned that the international opportunity continues to be the most remarkable and exciting opportunity that PepsiCo has as a company. PepsiCo's international net revenue has increased from $25 billion in 2018 to $36 billion in 2023, with organic revenue growing at a faster rate internationally compared to North America. PepsiCo's international business has expanded significantly, with its international operations alone surpassing the size of many global consumer goods companies. As PepsiCo scales its international business, some of its international operations are becoming more profitable. This initiates a virtuous circle of scale, reinvestment, margin expansion, and ultimately leads to much higher profitability. Collaboration with CELSIUS. PepsiCo owns an 8,5% stake in CELCIUS as part of the distribution agreement they made with the company. Management has mentioned that they are happy with the collaboration with CELSIUS and that it continues to be a part of PepsiCo's growth strategy. It could turn out to be a very profitable collaboration as CELCIUS continues to significantly gain market share and has now reached a market share above 10% in the United States. CELCIUS is now expanding internationally, and PepsiCo's management has mentioned that there is an opportunity for PepsiCo to collaborate in CELCIUS' international expansion. They are currently in talks with CELCIUS on how the collaboration can leverage the PepsiCo system for a larger expansion.

Shareholder-friendly. PepsiCo has recently achieved the status of Dividend King by consistently increasing its dividend for more than 50 consecutive years. PepsiCo has increased its dividend for 52 consecutive years, and management has stated that one of their top priorities is to continue increasing their dividend in the future. Since 2010 until the end of 2023, PepsiCo has increased its dividend at a compound annual growth rate (CAGR) of 7,7%. It means that at the current rate, the dividend will double every 10 years. PepsiCo is also committed to repurchasing shares and plans to repurchase approximately $1 billion worth of shares in 2024. PepsiCo has reduced its shares outstanding from 1,497 billion in 2014 to 1,374 billion in 2023, which equals an 8% reduction.

Now it is time to calculate the price of shares in PepsiCo. I perform three different calculations that I learned at a Phil Town seminar. The first is called the Margin of Safety price, which is calculated based on earnings per share (EPS), estimated future EPS growth, and estimated future price-to-earnings ratio (P/E). The minimum acceptable rate of return is 15%. I chose to use an EPS of 6,56, which is from the year 2023. I have selected a projected future EPS growth rate of 8% (management expects EPS to grow in the high single digits). Additionally, I have chosen a projected future P/E ratio of 16, which is twice the growth rate. This decision is based on the fact that PepsiCo has historically had a higher P/E ratio. Lastly, our minimum acceptable rate of return is already set at 15%. After performing the calculations, we determined the sticker price (also known as fair value or intrinsic value) to be $56,01. We want to have a margin of safety of 50%, so we will divide it by 2. This means that we want to buy PepsiCo at a price of $28,01 (or lower, obviously) if we use the Margin of Safety price.

The second calculation is called the Ten Cap price. The rate of return that a company owner (or stockholder) receives on the purchase price of the company is essentially its return on investment. The minimum annual return should be at least 10%. I calculate it as follows: The operating cash flow last year was 10.949, and the capital expenditures were 5.221. I attempted to analyze their annual report in order to determine the percentage of capital expenditures allocated for maintenance. I couldn't find it, but as a rule of thumb, you can expect that 70% of the capital expenditures will be allocated to maintenance purposes. This means that we will use 3.655 in our calculations. The tax provision was 2.262. We have 1.374 outstanding shares. Hence, the calculation will be as follows: (10.949 – 3.655 +2.262) / 1.374 x 10 = $69,55 in Ten Cap price.

The final calculation is referred to as the Payback Time price. It is a calculation based on the free cash flow per share. With PepsiCo's free cash flow per share at $5,70 and a growth rate of 8%, if you want to recoup your investment in 8 years, the Payback Time price is $65,48.

I believe that PepsiCo is a great company with a strong brand moat. I also appreciate the management and have confidence that they will effectively steer the growth of PepsiCo in the future. Competition will always be a risk when investing in a company like PepsiCo. The strong brands of PepsiCo should protect it from competition, but it is slightly concerning that PepsiCo has raised prices to the extent that Carrefour has decided not to sell PepsiCo products. The boycott from Carrefour won't have any significant impact, but if more grocery chains follow suit, it could be a headwind for PepsiCo and a tailwind for its competitors. There are some uncertainties regarding the introduction of obesity drugs and how they will affect PepsiCo in the future. PepsiCo is striving to develop healthier products, but the question remains whether they will offset the potential loss. It is something that will need to be monitored. The recall of Quaker products is unfortunate, but hopefully, it isn't something that we will see again anytime soon. PepsiCo has the potential to boost profitability as they scale their international business, which is growing faster than the North American business. Management has high hopes for the international business, which is encouraging. The collaboration with CELCIUS could also be very profitable as CELCIUS is growing rapidly and has just initiated its international expansion. PepsiCo is very shareholder-friendly, and for dividend investors, it is satisfying to witness their dividends double every decade. Overall, I like PepsiCo, and I believe it is a "sleep well at night" stock despite the risks mentioned in this analysis. However, I don't want to overpay. I will only consider adding PepsiCo shares if the price drops below $130, which aligns with the intrinsic value of the Payback Time price.

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