Should I Buy Pepsi Stock? 3 Pros, 3 Cons

by Tom Taulli | October 22, 2013 1:48 pm

Pepsi (PEP[1]) stock has provided shareholders with a nice gain of about 22% so far this year. That PEP stock return is far better than the return for rival Coca Cola (KO[2]), which has only gained around 8%.

But Pepsi stock hasn’t always been stellar. The compound average return for the past three years was less than 11%, while the S&P 500 clocked an annual return north of 16%. Plus, PEP stock has been looking a bit weaker in recent trading.

Will the good times continue with PEP? To see, let’s take a look at the pros and cons:

Pros for PEP

Global Powerhouse. Besides its namesake brand, Pepsi also has other top-notch beverages like Mountain Dew, Sierra Mist, 7UP and Lipton. Balancing this is a broad portfolio of PEP products in the snack category — products that benefit from something called “coincidence of purchase.” This means that that when someone buys a Pepsi beverage, there’s a good chance he or she will buy some chips or other snacks as well. The result is increased velocity at store shelves for PEP. What’s more, Pepsi’s enormous platform provides it with economies of scale.

Marketing. PEP remains on the cutting edge for marketing as well. Just recall the company’s “Crash the Super Bowl” campaign, which allowed fans to develop their own ads. For the 2013 game, the winning ad was ranked No. 1 for “most liked” and “most memorable” according to Nielsen (NLSN[3]) ratings. PEP is also aggressive with celebrity and athlete endorsements, as well as deals with organizations like the National Football League, Major League Baseball and National Hockey League. Beyonce at the Super Bowl, anyone? Retailers are more likely to carry PEP products because of these brand associations.

Growth. While developed markets are fairly saturated, growth for Pepsi stock could come in emerging and developing nations. Growth in the middle classes will likely increase spending levels for beverages and convenient foods. And PEP has been making substantial investments in foreign markets via infrastructure and acquisitions. For example, PEP gained a big foothold in Russia by buying Wimm-Bill-Dann Dairy and Juice. Partnerships are also a key part of the strategy. Some recent agreements have come with Chinese beverage system operator Tingyi, Saudi Arabia’s largest food producer Almarai and India’s Tata.

Cons for PEP

Health Issues. A junk-food crackdown, if you will, has become a growing problem for PEP. Consumers and governments are looking for ways to reduce the consumption of unhealthy food items and beverages, which are connected to diseases like diabetes. Sure, Pepsi is trying to find ways to improve things. One approach is to use partially hydrogenated cooking oils to reduce trans fats, while there’s also been a greater emphasis on baked goods. But these efforts are still in the early stages and it far from clear if PEP can make a smooth transition.

Valuation. PEP stock is a bit pricey, with a trailing P/E of 20. Meanwhile, Dr. Pepper Snapple’s (DPS[4]) goes for 15 times trailing earnings and Kraft (KRFT[5]) goes for just 17. The dividend for Pepsi stock is decent, though, currently yielding 2.7%.

Commodities. PEP is a massive buyer of raw materials like oranges, corn, flavorings, flour, oats, potatoes, raw milk, rice, seasonings, sucralose and sugar. Commodities prices have stable lately, but there have often been spikes. And long-term, a critical issue could be the availability of fresh water. This is especially the case in emerging and frontier markets. So even if there is strong demand, it may be extremely tough to provide a consistently safe product for consumers until the infrastructure improves.

Verdict

While there are mounting problems with health issues surrounding Pepsi products, PEP stock still comes with a lot to like. After all, the company has a portfolio of 22 brands that generate over $1 billion in annual revenues. And there are also huge opportunities in emerging and developing markets.

Besides, PEP also has the advantage of a large R&D budget to rethink its products.

So given Pepsi’s impressive brand portfolio, financial strength and potential in emerging and developing markets, the company should be able to continue growth at a steady pace. In the meantime, investors can enjoy a decent dividend yield from Pepsi stock.

All in all, the pros outweigh the cons on PEP stock.

Tom Taulli runs the InvestorPlace blog IPO Playbook[6]. He is also the author of High-Profit IPO Strategies[7], All About Commodities[8] and All About Short Selling[9]. Follow him on Twitter at @ttaulli[10]. As of this writing, he did not hold a position in any of the aforementioned securities.

Source URL: https://investorplace.com/2013/10/buy-shares-pepsi-3-pros-3-cons/

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