Interactive Investor

Is PepsiCo’s stock ‘the real thing’?

13th October 2021 09:19

Rodney Hobson from interactive investor

In high demand during the good times and a comfort when things get tough, our overseas investing expert analyses this incredible global brand.

Rodney Hobson is an experienced financial writer and commentator who has held senior editorial positions on publications and websites in the UK and Asia, including Business News Editor on The Times and Editor of Shares magazine. He speaks at investment shows, including the London Investor Show, and on cruise ships. His investment books include Shares Made Simple, the best-selling beginner's guide to the stock market. He is qualified as a representative under the Financial Services Act.

Rising costs for energy, commodities and distribution are creating new headwinds for companies just as they are putting the impact of Covid-19 behind them. Investors would do well to look for companies with strong marketing positions that will withstand renewed pressure.

One possibility is PepsiCo (NASDAQ:PEP). Although it has been overshadowed by rival Coca-Cola (NYSE:KO), it is one of the largest food and beverage companies in the world. Apart from the Pepsi cola drink that gives the company its name, it sells Tropicana fruit juice, Quaker Oats and snacks such as Doritos.

A major attraction is that Pepsi mainly controls its own production, distribution and sales in more than 200 countries, but it does not pass up the opportunity to work with other manufacturers and distributors where this works to Pepsi’s advantage, nor does it eschew working with other famous names such as Starbucks (NASDAQ:SBUX) to mutual advantage.

Despite the worldwide spread, however, sales are still heavily concentrated in North America, which accounts for 60% of revenue. This is a double–edged sword. As long as the US continues its strong recovery from the pandemic, there is clear scope for Pepsi to make rapid progress, but any faltering in the home region would leave the group facing serious headwinds.

Pepsi beat expectations for revenue and profits in its third quarter to 4 September and, because its sales were hardly affected by lockdowns last year, comparisons are meaningful.

Net revenue rose 12% compared with the previous third quarter to top $20 billion (£14.6 billion), while pre-tax profits increased 7.5% from $3.05 billion last year to $2.83 billion. 

It is true that revenue growth slowed from the unsustainable 21% achieved in the second quarter, with all areas of the world faring less well. In particular, there is some concern that the key North American market slowed sharply from a 24% surge in sales to only 7%.

However, even the lower figures were impressive, and Pepsi was able to upgrade forecasts for organic growth for the full year from 6% to 8%. If the final quarter maintains the performance of the third, then that figure could push a little further ahead.

Source: interactive investor. Past performance is not a guide to future performance

A bigger worry at this stage is that supply chains in North America and elsewhere are volatile and the widespread shortage of delivery drivers plus energy restrictions are just two of several factors pushing up costs and squeezing margins. These pressures are highly likely to continue into the next financial year starting in December, with possibly limited opportunities to pass higher costs on to consumers who may well be struggling to make ends meet.

However, Pepsi has made a start by raising some prices during the summer and will carry on with this policy until it meets consumer resistance. So far, sales have held up in both developed and developing countries better than expected – and better than when Pepsi has increased prices in the past. This is despite the fact that many of the company’s products, apart from perhaps Quaker Oats, are eminently ditchable if consumers start to feel the pinch.

Perhaps cola and crisps become more attractive as comfort foods or perhaps, as the Pepsi board believes, consumers stick to the products they know and trust when times are tough.

The shares have had a tremendous if erratic run over the past five years, rising from $100 at the end of 2016 to a peak of $159 in August. Although they have eased back a little, they still trade around $157, where the yield is 2.7%, not bad for a company of this quality.

Hobson’s choice: The shares are probably at the right level while investors wait for the year-end update, but they merit at least a hold. Consider buying if they slip below $154. The downside is probably limited to $150.

Rodney Hobson is a freelance contributor and not a direct employee of interactive investor.

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