Coca-Cola Stock Offers Nothing Beyond the 3.2% Dividend

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Coca-Cola stock - Coca-Cola Stock Offers Nothing Beyond the 3.2% Dividend

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The Coca-Cola Co (NYSE:KO) had a slightly better 2017 than recent years. Coca-Cola stock rallied about 10% for the year. However, the company badly trailed the market, which rose twice that amount. It was just another disappointing year for KO stock owners on top of many such weak years now.

What’s gone wrong for Coca-Cola stock? To put it simply, as consumers have become concerned about obesity and diabetes, soft drinks have lost their appeal. Consumers’ waistlines could only grow so far before Coca-Cola’s profits started shrinking. And regulators are piling on. Last week, South Africa joined the soda tax movement, becoming the latest in a growing number of countries taking aim at sugary beverages.

Some analysts have started trying to make a contrarian bullish case for the price of Coca-Cola stock lately. But these arguments don’t hold up well to further scrutiny. Let me state it bluntly — if you buy KO stock here, don’t expect much if any return on your investment beyond the 3.2% dividend yield for years to come. Here’s why.

 

Coca-Cola has fallen victim to the same problem hitting so many U.S. multinational consumer products companies: Its revenues are shrinking. The company hit $48 billion in revenues in 2012. Since then, Coca-Cola has brought in fewer sales each and every year. The figure had fallen almost 15% to $42 billion for full-year 2016, and appears set for another decline for 2017.

Not surprisingly given the headwinds for soft drinks, this is hitting cash flow and earnings. The company was able to hold operating cash flow steady until 2015, but it’s started to slump dramatically now. Meanwhile, earnings have declined from the $1.90/share range back in 2011-13 to under $1.50 last year.

Debt Rising From Coca-Cola Stock Buyback

Given that Coca-Cola hasn’t been able to grow, it has faced a challenging trade-off. Shareholders expect KO stock to pay a higher dividend each and every year. On top of that, the company is buying back sizable quantities of Coca-Cola stock.

How is it paying for all that? A good chunk of it is being funded with debt. Since 2012, the company’s debt load has risen from $33 billion up to $49 billion. This isn’t a dangerous level of debt — the company generates plenty of cash to cover the interest expense. However, shareholders should realize that the rising dividend and share buyback are being funded by added leverage, not earnings growth.

If and when Coca-Cola decides it has taken on enough debt, you’ll either see the buyback stop, or dividend growth drop to almost nothing. Given how weak KO stock has performed in this raging bull market, removing either of those levers to support the stock price will leave Coca-Cola shares floundering.

Is Coca-Cola Stock’s 3.2% Yield Enough?

Coca-Cola’s earnings and revenues are falling. This could certainly change. The company is targeting bolt-on acquisitions to try to get back to growth. For now though, soda taxes and changing nutritional opinion are firm headwinds against the company.

As such, the company’s 24x forward price-earnings ratio is quite difficult to justify. Even assuming flat earnings, rather than more declines, that is a premium valuation.

Given that backdrop, at this point you can only realistically expect to earn a return on KO stock via the dividend. It would take something major to get KO stock over 50 given the fundamental problems here.

As a KO stock owner, you have to ask yourself: Is this investment worth holding just for a 3.2% yield? Sure, 3.2% does beat bonds by a bit. But you are taking equity risk. It wouldn’t be shocking to see KO drop back to 40 at some point. I get that investors are starved for yield, but interest rates are now rising. Coke’s 3.2% with minimal prospects for share prices gains simply isn’t enough to excite me in a world where interest rates are finally going up. If treasury bonds start paying 3.2% or more, the fixed income investors will swap out their no-growth stocks like KO and move back to the safety of bonds.

Coca-Cola Stock Verdict

Coca-Cola is a great American company. It’s one of the world’s leading brands. Warren Buffett made a good chunk of his fortune buying and holding KO stock. But there’s a good and a bad price for everything.

Coca-Cola’s future appears a lot dimmer than its past. The company hasn’t even been able to maintain flat revenues and earnings, let alone grow, during an economic boom. People won’t stop drinking soda entirely, but the secret is out — the stuff is unhealthy. Yes, the company can pivot to water, milk, and other such healthier beverages. But the big margins come off its namesake product, and sales of it will likely continue to slide. KO stock could still be a winner for income investors if it were cheaper. But at 24x earnings and just a 3.2% yield, the stock is significantly overvalued.

The only real case I see for Coca-Cola stock is that it yields more than chief rival Pepsico, Inc. (NASDAQ:PEP). KO stock offers 3.2%, versus 2.7% for PEP stock. Pepsico, however, has much more diversified operations, and has managed to slightly grow earnings in recent years. That more than makes up for the lower current dividend yield.

At the time of this writing, the author had no positions in any of the aforementioned securities. You can reach him on Twitter at @irbezek.

Ian Bezek has written more than 1,000 articles for InvestorPlace.com and Seeking Alpha. He also worked as a Junior Analyst for Kerrisdale Capital, a $300 million New York City-based hedge fund. You can reach him on Twitter at @irbezek.


Article printed from InvestorPlace Media, https://investorplace.com/2018/01/coca-cola-stock-ko-stock-offers-nothing-beyond-dividend/.

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