Is PepsiCo a good addition to your portfolio?
PepsiCo owns some of the most known brands in the beverage and snack industry. Often well-known brands mean good investments but is it also the case with PepsiCo? In this analysis, I will have a look into PepsiCo as an investment
This is not a financial advice. I am not a financial advisor and I only do these post in order 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 also 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.
I have wanted to make an analysis of PepsiCo since I made my analysis of Coca-Cola that you can find here. These companies have pretty much created a duopoly in the U.S. refreshment beverage market, as Coca-Cola has a 22 % of the market share, while PepsiCo has 20 % (Coca-Cola has a share advantage in most markets outside of the U.S.). However, while Coca-Cola thrives to be a "total beverage" company, PepsiCo has chosen another strategy. For full disclosure, I should mention that I do not own shares in PepsiCo (or Coca-Cola for that matter).
While the Pepsi-Cola has been around since 1893, PepsiCo was formed in in 1965 because of the merger of the Pepsi-Cola company and Frito-Lay. I believe that most people know PepsiCo. The company is probably most known for their beverages such as Pepsi-Cola, 7up and Mountain Dew. However, they have many other famous brands in their portfolio, both within the beverage industry such as Tropicana juice, Rockstar Energy, Gatorade and SodaStream but they also own snack brands such as Lay's, Cheetos, and Doritos while they also own Quaker foods. PepsiCo's wide range of brands means that their products are enjoyed by consumers one billion times a day in more than 200 countries around the world. Needless to say, PepsiCo has a huge brand moat.
Their CEO is Ramon Laguarta. He has been the CEO since 2018. He is the sixth CEO in the company's history. He has bachelor's and master's degrees in business administration from ESADE Business School in Barcelona, while he also 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 such as CEO of the Europe and Sub-Saharan Africa sector, President for the Eastern Europe region, and Vice President for PepsiCo Europe, until he in 2017 became the global President of the company. He is described as one of the hardest-working and most humble global leaders. He is also known for being a leader that knows the business inside and out. His vision for PepsiCo is to be the global leader in convenient foods and beverages, to achieve this, he set the aspirations to be faster, stronger, and better. Faster by winning in the marketplace by being more consumer-centric and accelerating investment for topline growth. Stronger by transforming their capabilities, cost, and culture by operating as one PepsiCo, leveraging technology, winning locally and globally enabled. Better by integrating purpose into their business strategy and doing even more for the planet and people. I should also mention that he implemented a mission that is "create more smiles with every sip and every bite", and for shareholders that 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 place him in top 25 % of similar size companies. I like the mission and I like the vision, and I think Ramon Laguarta has the experience and credentials to deliver. All in all, I'm very confident in the management at PepsiCo.
We have determined that PepsiCo has a brand moat. We like the management as well. Now let us investigate the big five numbers to see if PepsiCo lives up to our requirements for a strong moat. In case you want an explanation about what the big five numbers are, you can have a look at "MY STRATEGY" on the website.
The first number we will look into is the return on investment capital, also known as ROIC. We want to see 10 years of history and we want the numbers to be above 10 % in all the benchmarks. The numbers are just as we want them. PepsiCo delivers a ROIC above the 10 % in each of the benchmarks. Ideally, you would like to see the number increase from benchmark to benchmark, and PepsiCo almost lives up to that. However, it seems like a pandemic got in the way last year. Nevertheless, the numbers are great throughout all benchmarks.
The next numbers we will investigate are the Sales Growth Rates. Ideally the numbers should be above 10% in each benchmark and increasing. The numbers from PepsiCo are underwhelming. They do not meet the requirements in any of the benchmarks. The only positive is that it has increased a bit in the last three benchmarks.
The next numbers are the EPS Growth Rates. As with all other growth rates we want the numbers to be above 10 % in all benchmarks. Once again, the numbers are a bit underwhelming. I don't want to give too much importance into the benchmark from last year, as a company like PepsiCo is not expected to do well during a pandemic with lockdowns. Excluding the last year, we do see that the numbers a better in the later benchmark than the older ones.
The Equity Growth Rate is also known as the most important of the four growth rates. These numbers are much better than the previous growth rates. While the numbers don't meet the requirement in the older benchmark, they are close in doing so. In the later benchmark we see fantastic numbers, even during a pandemic. If you former two growth rates made you a bit down on PepsiCo, this should make you a bit more excited.
Finally, we investigate the Cash Growth Rates. Once again, the numbers are underwhelming throughout the benchmarks except for the one from last year. While the numbers are not catastrophic, they are certainly not good neither. It will be interesting to see how PepsiCo will deliver from here and is something worth monitoring.
To shortly summarize the five numbers from PepsiCo. ROIC will always be the most important number and PepsiCo has a great ROIC in all the benchmarks. If you can find a company that consistently deliver a ROIC of more than 10 %, you should be interested. Looking at the equity growth rate, you should also be interested in PepsiCo. Despite being just short of the requirement in the older benchmarks, they deliver great numbers in the later benchmark. The sales growth rate, the EPS growth rate and the cash growth rate are all underwhelming in all or almost all benchmarks. Obviously, it is some sort of concern that the numbers are underwhelming in three of the growth rates. However, I'm still interested in PepsiCo, as the upside from the ROIC and the equity growth rate outweighs the downside of the other three.
Another important thing to investigate is debt, and we want to see if a business has a reasonable debt that can be paid off within 3 years. We do so by dividing the total long-term debt by current cash flow. Doing the calculation in PepsiCo, I can see that PepsiCo has 5,67 years earnings in debt, which is more than you would like to see. I'm not staying away from PepsiCo due to this, as it is a company that has existed for a long time, and I'm quite confident that they won't go bankrupt anytime soon. I still believe that the debt should be monitored though.
Like with all other investments, investing in PepsiCo comes with some risks. I read through the annual report and realized that the risks that PepsiCo mentions are pretty much the same as Coca-Cola mentioned. One of these is the ongoing pandemic. We saw the pandemic influence on PepsiCo numbers in 2020. We are seeing rollouts of vaccines and more and more people are getting vaccinated. However, we still see some concerns due to the Delta variant, and if it results in lockdowns again, it will hurt PepsiCo short-term. Another risk that PepsiCo mentions as a large risk in their annual report is competition, as the commercial beverage and snack industries are highly competitive, and competitive pressures may cause the need to reduce prices that would influence the revenue. Another risk the change of lifestyle around the world as obesity and other health-related concerns may reduce the demand of the products that PepsiCo produces.
However, PepsiCo can deal with some of the risks. Obviously, PepsiCo has no control of the pandemic, and while many societies are opening, we also read about new lockdown. Nevertheless, we must expect that the risk of the pandemic is only short termed. Regarding competition, it is where the moat kicks in. PepsiCo has a strong brand moat that should protect them against competitors. And while we are undoubtedly seeing a change of lifestyle around the world, it doesn't mean that PepsiCo cannot continue to grow. PepsiCo's formula to maintain their long-term growth target of 4 % to 6 % is divided into three strategic levers. They will continue to grow their largest brands through flavor extensions, diverse package mix offerings and strong brand activation campaigns to meet the changing consumer preferences. They want to deliver big ideas via consumer-centric innovations, one of these ideas was just revealed the other day, when it was announced, they would like to bring an alcoholic Mountain Dew to the market. Finally, they want to address key strategic gaps in their portfolio through mergers and acquisitions.
All right, we have gone through the numbers, potential and risk regarding PepsiCo, and now it is time for us to calculate a price for PepsiCo. To calculate a price, we will need numbers that I have explained in the "MY STRATEGY" section of the website. I do not want to go through the whole calculation here. I chose to use an EPS at 5.92 (which is the current one, as I believe fits will historically). I chose an Estimated future EPS growth rate of 5 (as stated previously, thy expect a growth between 4 % and 6 %), Estimated future PE 10 (which is the double of growth rate, as the historical highest PE is higher) and we already have the minimum acceptable return rate on 15 %. Doing the calculations by using the formula I described in "MY STRATEGY" we come up with the sticker price (some call it fair value or intrinsic value) of $23,84, and we want to have a margin of safety on 50 % , so we will divide it by 2 meaning that we want to buy PepsiCo at price of $11,92 (or lower obviously), if we use the Margin of Safety price.
Our second way to calculate a buy price is the TEN CAP price, which is also explained at "MY STRATEGY". To do so, we need some numbers from their financials, keep in mind that all numbers are in millions. The operating Cash Flow last year was 10.613. The Capital Expenditures was 4.240. I tried to look through their annual report to see, how much of the capital expenditures were used on maintenance. I couldn't find it though, so as a rule of thumb, you expect 70 % of the capital expenditures to be used on maintenance, meaning we will use 2.968 in our further calculations. The Tax Provision was 1.894. We have 1.380 outstanding shares. Hence, the calculation will be like this: (10.613 - 2.968 + 1.894) / 1.380 x 10 = $69,1 in TEN CAP price.
The last calculation is the PAYBACK TIME. I also described in "MY STRATEGY". With the Free Cash Flow Per Share at 5,07 and a growth rate of 5 %, if you want your purchase back in 8 years, the PAYBACK TIME price is $50,83.
I believe that PepsiCo is an interesting company with a huge brand moat. While there are some risks, I find them to be in a relatively small scale. If you are into dividends, PepsiCo has increased their dividends the last 49 years and the current dividend yield is 2,78 %., which could be another reason to add PepsiCo to your portfolio. Unfortunately, the current price of PepsiCo is way above the highest price I would pay for the company, which is the TEN CAP price at $69,1.
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