Monday, February 25, 2008

Cola Wars - Coke versus Pepsi

PepsiCo, Inc. manufactures, markets, and sells snacks and beverages worldwide.
The Coca-Cola Company engages in the manufacture, distribution, and marketing of nonalcoholic beverage concentrates and syrups worldwide.

Both stocks are dividend aristocrats as well as major components of the S&P 500 index. Over the past 10 years Pepsi (PEP) has significantly outperformed Coca-Cola (KO) by delivering an average total return of 10.46% annually to its loyal shareholders versus 2.28% for KO. Pepsi (PEP) has also managed to deliver an impressive 11.93% average annual increase in its EPS which was slightly better than the 11.25% increase achieved by Coca-Cola (KO).

Pepsi’s ROE has been in a 28%-37% range for our study period, which is also an impressive number. Coca-Cola’s ROE has declined dramatically during our study period, falling from a high of 42% in 1998 to its 2001 low of 23%, before recovering slightly to hover around in the 25%-34% range.

Annual dividend payments for Pepsi and Coke have increased over the past 10 years by an average of 11.71% and 9.30% respectively. These dividend growth amounts are in line with the EPS growth for Pepsi, but lower than the EPS growth for Coca-Cola.
It is quite noticeable that over the past 5 years both companies have increased their dividend growth rates significantly. Pepsi has increased its average annual dividend growth rate to 19.46%, while Coca-Cola has managed to increase its dividend payments by a mere 11.20%.

An 11% growth in dividends translates into the dividend payment doubling every 7 years. If we look at historical data, going as far back as 1977, both PEP and KO have indeed managed to double their dividend payments on average every seven years.

If we invested $100,000 in PEP on December 31, 1997 we would have bought 2759 shares. Your quarterly dividend income would have been $344.87 in early 1998. If you kept reinvesting the dividends though instead of spending them, your quarterly dividend payment would have risen to 1203 by December 2007 and you would be expecting to collect $1209 in late March 2008. For a period of 10 years, your quarterly dividend income has increased by 200 %. If you reinvested it though, your quarterly dividend income would have increased by 249%.

A similar investment in Coca-Cola would have provided you with a starting quarterly dividend payment of $224.85 in early 1998 which would have risen to $635.80 by November 2007, and would be expected to increase to $714.40. For a period of 10 years, your quarterly dividend income has increased by 126.67 %. If you reinvested it though, your quarterly dividend income would have increased by 182.7 %.

I also like the fact that Pepsi’s dividend payout has not exceeded 50% over the past 10 years in addition to the low P/E ratio, which is only slightly above 20, and a decent dividend yield of 2.1%.

On the other hand Coca-Cola is more expensive than Pepsi, with its higher P/E of 25. In addition its dividend payout has spent the majority of the past decade above 50%, rising to as high as 77% in 2000.

Overall Pepsi has shown a much bigger progress than Coke over the past 10 years. In addition, it’s trading at a bargain multiple relative to its biggest competitor. And last but not least, its dividend growth is much higher than Coke. I would consider adding to Pepsi on dips below $68. I might also consider adding to Coca-Cola below $51.

Disclosure: I do own shares in PEP. This analysis of the stocks is not an investment advice.

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