Pouring Over Pepsi (PEP)
August 30, 2009
PepsiCo (PEP) has 18 global mega-brands, each with annual sales of more than $1 billion, and they include Pepsi Cola, Gatorade, Mountain Dew, Fritos, Lay’s, Doritos, Tostitos, and Quaker. Pepsi is a global beverage, snack and food company and makes a wide range of snacks, carbonated and non-carbonated beverages, and foods that it sells in some 200 countries.
Company Background
Sales in PEP’s North American beverage segment fell 7% in the second quarter of this year while Coke’s sales fell only 1% according to Morningstar. However, Pepsi’s snack food segment showed solid growth. Its North American snack business is PEP’s most profitable sector, generating 33% of its total sales and 44% of its profits. Through its Frito-Lay division, PepsiCo is the world’s largest snack food company, controlling almost 40% of the U.S. salty snack market and around 30% of the non-U.S. market.
PEP’s latest 10Q quarterly report shows that Frito-Lay is the largest of its six segments accounting for 30% of Net Revenues for the last 12 weeks and 33% for the last 24 weeks. Sales of Pepsi Cola and other beverages by the Pepsi Americas segment amounted to 25% in both periods. Bottle Case Sales, a common measure PEP uses for all of its soft drinks, declined 6% “reflecting continued softness in the North American liquid refreshment category.” (7-22-09, page 34) Worse, non-carbonated beverage volume in North America dropped 14%, primarily due to double digit declines in Gatorade sports drinks and Aquafina water.
And, PEP’s sales have declined for four consecutive quarters.
In August, PEP announced it had reached a deal to buy the outstanding shares of its two main bottlers for $7.8 billion, ending a months-long disagreement over the price. Before the deal was final, Value Line thought the purchase would contribute to long-term growth of sales and EPS. However, with declining sales of carbonated and non-carbonated soft drinks, I don’t understand what Pepsi hopes to concretely accomplish.
Below, I compare and then discuss AnnC’s SSG, which I got from BI’s First Cut page, with mine and with Take Stock.
PepsiCo (PEP) |
AnnC, from BI’s First Call | Armin | Take Stock |
Date | 7-13-09 | 7-17-09 | 7-16-09 |
Data | S&P | Same | Hemscott |
Price | $55.52 | $56.66 | $57.28 |
52 week High & Low Price | $72.25 & $43.78 | Same & Same | Not Included |
Last Quarter of Reported Data | Q1 ending 3-31-09 | Same | Same |
Software Used | TK 5 | Same | TS Online |
Project Growth From End of | Last FY | Last Q | Last FY |
Sales Growth | 6.00% | 8.00% | 8.50% |
EPS Growth | 7.00% | 8.00% | -5.1% |
High PE | 20.0 | 21.0 | 22.5 |
High EPS | $4.85 | $5.13 | $2.47 |
High Price | $97.00 | $107.20 | $55.49 |
Value Line Estimated High Price = $90-110 as of 5-1-09 and 7-31-09 | |||
Low PE | 12.0 | 14.4 (from 2008, lowest in last 10 years) | 17.3 |
Low EPS | $3.49 (TTM) | Same | $3.17 |
Low Price | $41.90 (Low PE x Low EPS) | $43.80 (Recent Severe Low Price) | $57.28 (same as Current Price) |
Upside/Down | 3.00 | 4.0 | Impossible to Calculate |
Total Return | 13.8% | 15.6% | 2.2% |
Final Result | SSG HOLD | SSG BUY | DON’T BUY |
SSG Buy Under | $53.00 | $60.85 | $31.39 |
RV/PRV (no outs) | 77.6/72.5 | 79.0/73/3 | Not Included |
Quality | N/A | A+ | 2.2 (Unacceptable) |
PTPM – 5 yr ave | 19.3% Trend down | Same Same | 18.9% Trend N/A |
ROE – 5 yr ave with End Equity | 33.4% Trend down | Same Same | Not Included |
ROE – 5 yr ave with Start Equity | N/A | 33.8% Trend down | 33.9% Trend N/A |
Debt to Equity – 5 yr ave | N/A | 27.8% Trend up | Not Included |
DISCUSSION
1. EPS Estimates:
(A) AnnC’s SSG
** Ann used the BI/NAIC Preferred Procedure to estimate 7.00% EPS growth. Her PP was based on the following five estimates: 6.00% Sales growth [less] 18.0% Pre-Tax Profit Margin (overriding the 19.3% default) [less] 26.7% Tax (default) [less] -0- Preferred Dividends (overriding the $2.0 per share default [divided by] 1556 M Shares Outstanding (default) [equals] 7.2% EPS. Ann used 7.0% EPS.
** Compared to Ann’s 6.00% expected Sales growth, Zacks.com estimated 10.17% while Morningstar Premium estimated 4.00% internal growth. However, Mstar recognized that PEP’s nearly 10.00% historical Sales growth in the last 5 years included several acquisitions and also the advantageous effects of a weak dollar.
** Unlike Ann, I no longer use the PP and think it involves too many estimates and too much guesswork. Moreover, if you start with a low estimate of Sales growth, you usually wind up with a very low EPS estimate. See: Pondering the Preferred Procedure, https://arminfields.wordpress.com/2009/03/28/pondering-the- preferred-procedure/
(B) Armin’s SSG
** When I did my SSG, the six analysts I always check were estimating long term EPS at an average of 9.775% with Zacks.com high at 11.53% and Value Line low at 8.00%. First Call via YahooFinance was 9.47%, Reuters.com was 9.65%, and S&P and FactSet CallStreet via CNN Money were both 10.00%.
** Three analysts contributed to the consensus at Reuters and ranged from 10.0% to 8.9%. The three analysts at FactSet ranged from 11.0% to 9.0%.
** I used 8.00% EPS based on Value Line’s estimate which was the lowest of all the estimates. To know which is the lowest, we must check all six.
** PEP’s historical EPS has been steadily declining for the last 5 years from 11.0% in 2004 down to 2.7% in 2008.
(C) Take Stock
** TS estimated -5.10% EPS (that’s a negative 5.10%) which was a whopping 14.80% less than the average of the six analysts and 13.10% less than VL, the lowest of the six estimates. I consider that unreasonably conservative and, once again, we need to check all six analysts to make that judgment.
2. Forecast High Prices:
** Ann’s Forecast High Price was $97.00 which was close to, but not below, the low end of VL’s $90-110 estimate.
** I got $107.70 which was close to, but not above, the high end of VL’s estimate.
** Both forecasts seem reasonable to me as my rule of thumb is to never substantially exceed or fall below VL’s estimate, at least not without a good reason. See: Determining What’s Reasonable and What’s Not: An Update, https://arminfields.wordpress.com/2009/07/15/determinung-whatsreasonable-and-whats-not-an-update/
** Take Stock’s Forecast High Price was $55.49 which was a huge 38% below the low end of VL’s $90-110 estimate and which, once again, seems unreasonable and irrational by comparison since PEP was then currently selling for $57.28.
3. Pre-Tax Profit Margin and Return on Equity
(A) PTPM
** With S&P data, which Ann and I both used, PEP’s 5-year average PTPM was 19.3% and trending down. Down trends are usually a red flag indicating poor performance. However, S&P places PepsiCo in the Soft Drinks Industry whose 5-year average PTPM was 11.6%, substantially worse than PEP.
** With Hemscott data, which Take Stock used, PEP’s average PTPM was 18.9% while its industry average, this time in the Processed and Packaged Goods Industry, was 8.1% and again substantially worse than PEP which ranked third of 61 companies (as of May 6, 2009).
(B) ROE
** With S&P data, PEP’s average ROE was 33.4%, trending up, and its industry average of 20.9% was substantially worse.
** With Hemscott data, PEP’s average ROE was 33.3% and again its industry average of 21.0% was substantially worse. PepsiCo ranked 7 out of 61 companies.
4. Final Results :
** Ann got a SSG Hold with a 3.0 Upside/Downside ratio and a 13.8% Total Return which did not satisfy the minimum 15.0% TR criteria.
** I got a SSG Buy with a 4.0 U/D and a 15.6% TR.
** Take Stock does not use the Buy, Hold or Sell criteria nor the U/D concept and it seems likely that TS would say Dump/Don’t Buy PEP.
** S&P rated PepsiCo’s quality as A+ while Take Stock rated PEP a 2.2, unacceptable.
5. Final Thoughts:
** Ann projected future growth from the last FY while I used the last Quarter. If she had projected from the last Q, her U/D would have been 3.1 (instead of 3.0) and her Total Return would have been 14.8% (instead of 13.8%). That is an almost SSG Buy and, as the FY progresses with one or two more reported quarters, is likely to be a solid SSG Buy.
** Regardless of what my SSG shows, I’m not impressed with PepsiCo.
– Armin
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