5 reasons why Pepsi stock is going to popMarch 9, 2011: 5:00 AM ET
The soft-drinks and snacks giant provides Rob McIver of the Jensen Fund with the steady performance he craves.
1. Strong even in a weak economy
Only the most steadily profitable companies make it into the portfolio of the $3.6 billion Jensen Fund (JENSX). That approach has driven 5.3% annualized returns over the past five years, vs. 2.1% for the S&P 500. Jensen has held PepsiCo (PEP) stock since 2003, and last quarter co-manager Rob McIver upped that stake by 45%, to 2.5 million shares. He sees big gains ahead even amid an uncertain economy. "This is a hugely profitable, quality growth company," McIver says. "It is very predictable. From 2007 through our forecast 2010 results, the company's earnings have risen by 22%. There was hardly a dip in 2008 or 2009. We think that's a very, very powerful case for investment."
2. U.S. company, foreign growth
People think of PepsiCo as distinctly American, says McIver, making it easy to forget that 50% of its revenue comes from overseas, including burgeoning markets such as Vietnam and Russia, where last year it acquired the leading juicemaker. "Pepsi has reached a plateau in the U.S. carbonated-drink market," he says, "but it's still making a lot of money here, and that helps fund new opportunities overseas." McIver says Pepsi will reign in emerging markets where consumers know its brands and are gaining income. "Today it accounts for about 40% of the global market in salty snacks, which is 10 times larger than the company's next-closest competitor," he notes, "and it can still grow."
3. Bigger is better for PepsiCo
For a $60 billion company, PepsiCo is surprisingly nimble, says McIver. For example, its practice of distributing its snacks directly to stores, unlike competitors (who deliver to central warehouses), allows PepsiCo to react quickly to changes in consumer preferences and win market share. "It has huge competitive advantages, considering its scale, from negotiating price to relationships with vendors," says McIver. And after acquiring its two largest bottlers in 2008, which is expected to save the company $550 million a year by 2012, Pepsi, McIver thinks, will be even faster to introduce new products in its Naked Juice line, for instance, and coconut water business.
4. Cash for shareholders
Pepsi's shareholder-friendly attitude helps drive the stock's outperformance, argues McIver. From 2000 to the third quarter of 2010, he notes, the company returned more than $43 billion to shareholders via dividends and stock buybacks. For long-term investors like McIver, it means "our slice gets a bigger share of the pizza." McIver also thinks Pepsi's record of paying a dividend for the past 40 years is underappreciated. "The current dividend yield is very attractive at 3%," he says. And McIver values the experience of PepsiCo's management. "In this case, the top 11 executives have an average of 20 years each with the company," he says.
5. PepsiCo stock is still cheap
McIver is expecting double-digit earnings growth and strong increases in free cash flow for PepsiCo in the next few years. Yet the stock still looks cheap. Over the past decade shares have traded at a 16% premium to the S&P 500 (SPX). Today that premium is just 7%. The stock ended 2007 at $77, McIver points out. "Now," he says, "it's $66, and the company is substantially more profitable today than it was then. It generates more earnings and free cash flow, and it has a broader product portfolio and global footprint," he says. And how about Coca-Cola (KO) stock? "Oh, we hold Coke too," he says, "but Pepsi's stock is more attractively priced at the moment."
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