Solid execution, product diversity and strong brand recognition helped PepsiCo, Inc. (NYSE:N:PEP) register a fairly strong performance in 2015. But the last quarter of the year was a little bit mixed in the sense that revenue topped expectations but EPS barely matched the consensus target. Adverse forex fluctuations and softer soda sales hurt the quarter and also took some spotlight from the year’s results, thus setting a low tone for 2016. But does all look bad for the future of PepsiCo? This PepsiCo analysis article takes a look at what you can expect from the company in the year and beyond, but first is a recap of the latest earnings results.
4Q2015 highlight
PepsiCo, Inc. (NYSE:PEP) generated revenue of $18.59 billion in 4Q2015, which topped the consensus estimate of $18.51 billion for the quarter but fell short of the year-ago quarter revenue of $19.95 billion. EPS of $1.06 was in-line with the expectation.
Full-year 2015results overview
For the full-year 2015, PepsiCo, Inc. (NYSE:PEP) posted revenue of $63.06 billion, down 5% YoY and below the consensus estimate of $63.11 billion. Full-year EPS of $4.57 topped the consensus target of $4.56, but declined 1% YoY.
The chart below shows PepsiCo’s annual revenue vs. cost of revenue in the last four years:
2016 guidance
For fiscal 2016, PepsiCo is looking for EPS of $4.66, reflecting 2% upside from 2015. However, the consensus estimate calls for EPS of $4.76 for the year.
What’s thrilling about PepsiCo?
Product innovation
Besides boosting advertising budget, PepsiCo, Inc. (NYSE:PEP) is also turning more money to product innovation with R&D seeing an increase in budget in the recent years. The company relies heavily on product innovation to drive growth, especially through highly differentiated products. It is estimated that product innovation alone accounts for nearly 9% of PepsiCo’s revenue.
In the recent years, PepsiCo has launched a number of new products with each generating more than $100 million in annual retail sales thanks to robust R&D department. In addition to introducing brand new products, the company’s innovation efforts are also geared towards expanding flavors of existing products to further broaden the revenue stream.
PepsiCo is also trying to boost suffering beverage business through innovation, including through innovative packaging.One of the reasons soda sales are falling is that people are increasingly becoming wary of artificial sweeteners used in soft drinks and the health risks they pose. As such, PepsiCo is shifting towards natural sweeteners to try to encourage uptake of its beverages among health conscious consumers. Additionally, the company is using innovative packaging to try and woo consumers to more profitable purchases.
Complementary business model
PepsiCo is the second-largest refreshment beverage company and the leading salty snacks manufacturer in the world. The company has a global presence with operations in many developed and developing economies with huge growth opportunities going ahead. One of the greatest advantages that PepsiCo enjoys is that its products are highly complementary. For example, its refreshment beverages that include soda and juices are consumed together with salty snacks. Because of product co-purchasing, PepsiCo enjoys a unique sales advantage.
Additionally, PepsiCo enjoys economies of scale because of its large size, especially when it comes to procurement of raw materials, IT and other purchases. As such, the large scale comes with cost-saving benefits for the company.
Growth headroom in snacks business
PepsiCo, Inc. (NYSE:PEP) runs the world’s largest snacks business. Today, the snacks category contributes a little over 50% of PepsiCo’s revenue. In the recent years, snack sales have helped offset softness in beverage business as soda consumption declines over growing consumer health concerns. The management has shown a desire to grow the snacks business more rapidly to the point that it contributes two-third of overall growth in the coming years.
Aggressive marketing efforts
PepsiCo is funneling increasingly more money to advertising and marketing efforts to try and lift the profile of its various product brands. Over the past nearly five years, advertising spending as a percentage of sales has risen by at least 1.1%.
PepsiCo uses multipronged advertising techniques with most of its recent efforts going to consumer-facing marketing campaigns. In addition to traditional advertising channels, PepsiCo is putting more money into social and digital advertising.
Premium products
PepsiCo, Inc. (NYSE:PEP) is also doubling down efforts in the premium products category to try to drive more profits. PepsiCo’s line of premiums includes Stacy’s Gingerbread, Lay’s Stax potato chips, Quaker Real Medleys hot cereals and Stacy’s Cocoa. These are high-margin products that provide huge bottom-line support.
Efficiency drive
PepsiCo, Inc. (NYSE:PEP) has been rolling out efficiency programs in phases whereby the end of one phase paves the way for another. In 2014 the company completed one phase of the cost-saving initiatives and announced another one. In the current cost-reduction program, the company targets to save $1 billion annually between 2015 and 2019. The company is primarily targeting productivity efficiency in the current cost-saving plan. As such, PepsiCo is betting on manufacturing automation, increase utilization of capacity and simplifying the organization structure to drive the $1 billion annual cost-saving in each of the years from 2015 to 2019.
The saving from the ongoing efficiency drive will be reinvested in the business to fuel topline growth.
Vast international opportunity
The greatest opportunity for PepsiCo in the international markets appear to be in the salty snacks business. For one, per capital consumption of snacks in emerging markets is still low. Additionally, international market for salty snacks remains largely untapped and given PepsiCo’s lead on that front, there is so much for the company to make in the business. Moreover, competition in the international salty snacks market isn’t as fierce as beverage market, which means that PepsiCo has no pressure that may call for aggressive advertising and marketing campaigns to defend and expand market share. Aggressive marketing campaigns usually take a hit on margins, thus negative impact to the bottom-line.
The growing middleclass in developing markets presents a huge growth market for PepsiCo’s snacks and beverage businesses. The company already generates about 45% of its revenues from developing and emerging markets and there is opportunity to do more in those markets is it continues to innovate and invest in global expansion. PepsiCo intends to invest $5.5 billion to expand its Indian operations by 2020. It has also earmarked $5 billion for investment in Mexico over the next five years.
PepsiCo is hoping that emerging markets will in the future account for two-thirds of its revenue. It is worth noting that the past five years have seen PepsiCo triple its revenues from developing/emerging markets.
What’s worrying about PepsiCo?
International exposure
As much as there are huge growth opportunities to tap in the international markets, there are multiple challenges for PepsiCo to contend with in the international market in the near-term. Adverse currency fluctuation is one of the headwinds PepsiCo is facing due to its vast exposure to the global market.
Economic slowdown in many developing markets is also threatening to limit PepsiCo’s topline growth as consumer purchasing power weakens.
Slowing soda sales
In 2014 and 2015, PepsiCo, Inc. (NYSE:PEP) registered a 2% decline in soda volume sales in each of the years. That came on the back of shrinking market for soda as consumers become more vigilant about sugar consumption and other health risks associated with carbonated soft drinks.
Although PepsiCo has been trying to shift away from artificial sweeteners to natural sweeteners in beverages as well as tweaking packaging to encourage instant soda consumption, the efforts are yet to pay off in a meaningful way. But PepsiCo is not alone in the soda problem as other leading soda manufacturers Coca-Cola Co (N:KO) and Dr Pepper Snapple Group Inc. (NYSE:N:DPS) are also battling dwindling soda fortunes.
Shareholder orientation
PepsiCo, Inc. (NYSE:PEP) returns value to shareholders through a combination of dividends and buybacks, which it improves frequently. The company has returned over $65 billion to shareholders in the form of dividends in the last 10 years. It recently announced a 7.1% boost to annualized dividends.
PepsiCo also buyback its shares regularly. It returned $3.2 billion to shareholders in the form of buybacks in 2012, returned $3 billion in 2013 before boosting the buyback to $5 billion each for 2014 and 2015. The company intends to repurchase $3 billion worth of its stock in 2016.
Bottom-line
There is more to be hopeful about the prospects of PepsiCo, Inc. (NYSE:PEP) than to worry about the same.
Disclaimer: The opinions and data expressed herein by the author are not an investment recommendation and are not meant to be relied upon in investment decisions. The author is not acting in an investment advisory capacity, nor is this an investment research report. The author’s opinions expressed herein address only select aspects of potential investment in securities of the company or companies mentioned and cannot be a substitute for comprehensive investment analysis. Any analysis presented herein is illustrative in nature, limited in scope, based on an incomplete set of information, and has limitations to its accuracy. The author recommends that potential and existing investors conduct thorough investment research of their own, including detailed review of the companies’ SEC filings, and consult a qualified investment advisor. The information upon which this material is based was obtained from sources believed to be reliable, but has not been independently verified. Therefore, the author cannot guarantee its accuracy. Any opinions or estimates constitute the author’s best judgment as of the date of publication, and are subject to change without notice.