Coca Cola vs. PepsiCo

Ron is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Here are a few mind-boggling stats about the soft drinks industry:

  • The soft drink sector earns $60 billion in annual revenue and produces 15 billion gallons of soft drinks a year.
  • The average 12-19 year old age group drinks the equivalent of 868 cans a year.
  • 56% of 8-year-olds drink at least one can of soda pop daily.
  • Soft drink purchases by teenagers in schools surged by 1,100% over the past 20 years, while dairy product purchases have dropped by 30%.
  • Soft drinks account for more than 25% of all drinks consumed in the United States.

Going by the stats above, it's worth noting that the soft drink beverages sector is one of the biggest consumer industries out there. And in today's article, we are going to talk about the two most popular soft drink beverage companies, The Coca Cola Company (NYSE: KO) and PepsiCo, Inc. (NYSE: PEP), and decide which one seems a better investing option for at the moment.

What got me concerned is the little table below:

<table> <tbody> <tr> <td> <p><strong>Company</strong></p> </td> <td> <p><strong>% Increase in Stock Price (YTD)</strong></p> </td> <td> <p><strong>Current P/E ratio</strong></p> </td> <td> <p><strong>Forward P/E ratio</strong></p> </td> <td> <p><strong>EPS</strong></p> </td> </tr> <tr> <td> <p>The Coca Cola Co.</p> </td> <td> <p>5.75</p> </td> <td> <p>19.31</p> </td> <td> <p>16.89</p> </td> <td> <p>1.92</p> </td> </tr> <tr> <td> <p>PepsiCo, Inc.</p> </td> <td> <p>5.8</p> </td> <td> <p>18.70</p> </td> <td> <p>15.90</p> </td> <td> <p>3.75</p> </td> </tr> </tbody> </table>

From the above table, the YTD % change in stock price is almost identical for both the companies. Likewise the stock price change, the current and forward P/E ratios match correspondingly for both the firms. But what is interesting is the earning per share (EPS) metric. If P/E ratio is supposed to go down in the future, then two things might happen. Firstly, the price might go down. Secondly, the earnings might go up. Average analysts' estimates say that Coca Cola's EPS and PepsiCo's EPS are expected to reach $2.90 and $4.41 by the end of 2013. But if earnings are going up, won't the prices go up eventually? Yes, it will. Unless this is just a momentary phase based on market sentiment, the prices would try to follow the historical average lines. Needless to say, prices will go up. Yay for the long term investors who have invested in either of the companies!

But then we come to another interesting point. Even when the P/E ratios are identical to each other, why the EPS of Coca-Cola is almost half of that of PepsiCo? Remember, the market worth of both these companies is almost identical, to be correct. Coca-Cola is worth $165.91bn and PepsiCo is worth $108.59bn. What is pulling Coca-Cola back in the EPS game? Apparently its huge number of outstanding shares, 4.49bn, compared to 1.55bn of PepsiCo, is probably lowering the EPS of Coca-Cola.

EPS is important in determining the dividend payout, of course. You don't want to go with a company that earns you less on every dollar you invest, right? But there's more to it. Does EPS determine everything about a company? Not at all! Here are a few other factors that are so important when judging a company.

  1. Revenue Growth. This shows that the company is expanding its scale of operations, which might improve the operating efficiency and create a bar to entry for other small-scale companies.
  2. Margins. When there is revenue growth, there is a strong chance that profitability will improve, or else revenue growth was immaterial.
  3. Balance Sheet. We are concerned about the difference (Assets - Liabilities). It is supremely important that the company knows how to maximize its assets yet minimize its liabilities.
  4. Money-making opportunities. Though it is somewhat skeptical but return on equity (ROE) does indicate how well the company is banking on the opportunities with the capital gains.
  5. Valuation. Any company that is overvalued is not worthy of being in our portfolio, since they will eat away value from the aggregate returns. Thus a comparison between fair value and market value matters.
  6. Dividends. The most tangible proof of profits is a check to shareholders every three months. Companies with solid dividends and strong commitments to increasing payouts are what show that the company is treating its investors well.

Based on the above factors, here's a simple table below:

<table> <tbody> <tr> <td> </td> <td colspan="2"> <p><strong>Revenue Growth</strong></p> </td> <td colspan="2"> <p><strong>Margins</strong></p> </td> <td colspan="2"> <p><strong>Balance Sheet</strong></p> </td> <td> <p><strong>Opportunities</strong></p> </td> <td> <p><strong>Valuation</strong></p> </td> <td colspan="2"> <p><strong>Dividends</strong></p> </td> <td> </td> </tr> <tr> <td> <p><strong>Company</strong></p> </td> <td> <p><strong>3-yr revenue CAGR</strong></p> </td> <td> <p><strong>1-yr revenue growth</strong></p> </td> <td> <p><strong>Gross margin</strong></p> </td> <td> <p><strong>Net margin</strong></p> </td> <td> <p><strong>Total Debt-to-Equity</strong></p> </td> <td> <p><strong>Current Ratio</strong></p> </td> <td> <p><strong>Return on Equity (ROE)</strong></p> </td> <td> <p><strong>Price-to-Book Ratio</strong></p> </td> <td> <p><strong>5-yr Average Dividend Yield</strong></p> </td> <td> <p><strong>Current Dividend Payout Ratio</strong></p> </td> <td> <p><strong>Beta</strong></p> </td> </tr> <tr> <td> <p><em>Coca-Cola</em></p> </td> <td> <p>11.20%</p> </td> <td> <p>32.57%</p> </td> <td> <p>60.86%</p> </td> <td> <p>18.55%</p> </td> <td> <p>90.31%</p> </td> <td> <p>1.05</p> </td> <td> <p>27.37%</p> </td> <td> <p>5.33</p> </td> <td> <p>2.80%</p> </td> <td> <p>52%</p> </td> <td> <p>0.51</p> </td> </tr> <tr> <td> <p><em>PepsiCo, Inc.</em></p> </td> <td> <p>14.66%</p> </td> <td> <p>24.6%</p> </td> <td> <p>52.49%</p> </td> <td> <p>9.72%</p> </td> <td> <p>130.04%</p> </td> <td> <p>0.96</p> </td> <td> <p>30.66%</p> </td> <td> <p>5.33</p> </td> <td> <p>2.80%</p> </td> <td> <p>56%</p> </td> <td> <p>0.48</p> </td> </tr> </tbody> </table>

The chart above probably says everything.

Higher current margins yet lower revenue CAGR. Coca-Cola is probably turning around in the recent days. PepsiCo has just been more consistent over time, but Coca-Cola seems to be ahead of the two at this moment.

Lower debt-to-equity and higher current ratio. Not only Coca-Cola is curtailing on the debt, which will probably maximize the return on capital to the shareholders, unlike PepsiCo.

Lower ROE. Does it seem like this probably contradicts the previous point? Well, it doesn't. You see, ROE depends on the equity multiplier (the ratio of assets to shareholder's equity), according to the Du Pont equation. And the equity multiplier goes down when external debt goes down. That justifies the lower ROE.

Almost identical Valuation and Dividends values. So, they don't count, unless the amount of dividend income every quarter matters to you.


Looking at the above metrics, Coca-Cola seems better than PepsiCo to me. With the new fire behind the wheels and strong fundamentals, Coca-Cola might see some stock price gains in the coming few quarters. And clashed with PepsiCo, Coca-Cola might just turn out to be the winner over time.

Yet, having said that, it is also worth noting that industry stats still matter and it is important to compare Coca-Cola's performance to the industry averages. This is what average estimates say.

<table> <tbody> <tr> <td> <p><strong>Growth Est.</strong></p> </td> <td> <p><strong>KO</strong></p> </td> <td> <p><strong>Industry</strong></p> </td> <td> <p><strong>Sector</strong></p> </td> <td> <p><strong>S&P 500</strong></p> </td> </tr> <tr> <td> <p>Current Qtr.</p> </td> <td> <p>12.80%</p> </td> <td> <p>23.40%</p> </td> <td> <p>154.60%</p> </td> <td> <p>7.70%</p> </td> </tr> <tr> <td> <p>Next Qtr.</p> </td> <td> <p>6.80%</p> </td> <td> <p>17.70%</p> </td> <td> <p>114.70%</p> </td> <td> <p>14.60%</p> </td> </tr> <tr> <td> <p>This Year</p> </td> <td> <p>4.20%</p> </td> <td> <p>7.60%</p> </td> <td> <p>10.80%</p> </td> <td> <p>5.50%</p> </td> </tr> <tr> <td> <p>Next Year</p> </td> <td> <p>9.50%</p> </td> <td> <p>8.70%</p> </td> <td> <p>2.40%</p> </td> <td> <p>13.10%</p> </td> </tr> <tr> <td> <p>Past 5 Years (per annum)</p> </td> <td> <p>8.82%</p> </td> <td> <p>N/A</p> </td> <td> <p>N/A</p> </td> <td> <p>N/A</p> </td> </tr> <tr> <td> <p>Next 5 Years (per annum)</p> </td> <td> <p>7.94%</p> </td> <td> <p>12.99%</p> </td> <td> <p>13.52%</p> </td> <td> <p>8.77%</p> </td> </tr> </tbody> </table>

Though Coca-Cola seems to fall behind sector averages, it is not that far behind and certainly seems to be the safer option with a beta of 51%. It must be understood that any sector is composed of small and medium cap growth companies as well. That affects the averages, but only in the short-run. Now, it depends on you, as a growth or value investor.

RonChat has no positions in the stocks mentioned above. The Motley Fool owns shares of PepsiCo. Motley Fool newsletter services recommend The Coca-Cola Company and PepsiCo. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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