Snacks and beverage behemoth, PepsiCo (NYSE:PEP) reported solid Q1 results on April 17, beating consensus estimates. While analyst expected revenues of $12.4 billion and $0.75 earnings per share, the company generated $12.62 billion in sales and earnings grew to $0.83 per share.  Although net revenues remained even compared to the previous year, organic revenues increased 4%.  Financials were mainly hurt by unfavorable currency translations and structural changes. As expected, growth came from the booming snacks division and emerging economies. According to our estimates, Frito-Lay North America alone constitutes over one-third of PepsiCo’s valuation. This division saw a 4% rise in organic sales, bolstered by both volume and net pricing increases. The company is the leader in savory snacks in the U.S. with a 36.6% market share. On the other hand, PepsiCo is the far second with 28.7% share in the domestic carbonated soft drinks (CSD) market, behind the The Coca-Cola Company‘s (NYSE:KO) 42.4% share. This segment of the U.S. beverage market has declined in each of the last nine years, hurt by health concerns and negative consumer perception. As over one-fifths of PepsiCo’s sales have historically come from CSDs by our estimates, the diminishing demand for sugary sodas in the developed world has somewhat offset the growth from snacks. Going forward, the company expects a mid-single-digit improvement in core constant currency net sales this year, but currency is estimated to have an unfavorable impact of 3% on this figure.
We estimate a $87.13 price for PepsiCo, which is around 3% above the current market price. However, we are currently in the process of incorporating the latest earnings into our forecasts.
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Sodas Continue To Suffer In The Domestic Market
CSD volumes declined 1% year-over-year in North America for PepsiCo. This comes as the soda segment battles negative consumer sentiment regarding high sugar and calorie content in soft drinks. After three consecutive years of growth, the U.S. liquid refreshment beverage (LRB) market remained flat in terms of volumes in 2013.  CSD volumes declined by 3.2% year-over-year to less than 13 billion gallons last year, primarily due to a slide in diet drink sales. But what hurt PepsiCo most was relinquishing market share to its chief competitors The Coca-Cola Company (NYSE:KO) and Dr Pepper Snapple (NYSE:DPS) in the U.S. In the first quarter as well, dollar sales for CSD decreased by 1.9%, according to a research report by Wells Fargo Securities.  Although the flagship drink Pepsi registered a 4% rise in unit sales, unit prices fell 3.6%, meaning flat dollar sales.
Diet sodas have fared the worst in the CSD segment. Safety concerns over aspartame and stevia’s bitter aftertastes have further caused a 7% decline in diet soda consumption in the domestic market in the first quarter.  Dollar sales of Diet Pepsi fell 7% in the four-week period ending March. However, PepsiCo is now working on alternate sugar solutions to stop this free fall in low/no calorie volumes. The company has lined up the introduction of the natural flavor modifier “Sweetmyx” and the stevia-derivative “Reb D”, for use in low-calorie soft drinks. In addition, PepsiCo has announced the launch of “Pepsi made with real sugar” in the U.S. in June this year.  This comes as high-fructose corn syrup has suffered negative consumer perception. Natural sugar-variants could improve sales for PepsiCo, going forward.
Mexico Reports Disappointing Food And Beverage Sales
As expected, volumes for both the food and beverage divisions were hit by the newly imposed taxes in Mexico. The country imposed taxes on certain foods with high amounts of saturated fat, sugar and salt. This effectively increased prices of some savory snacks by 8%. On the other hand, a one-peso-per-liter (around 7.6 cents) tax on sugary drinks also raised beverage prices. Mexico is the third largest market for PepsiCo behind the U.S. and Russia, contributing 6.5% to the net revenues last year. With more than half of the country’s population living below the national poverty line, a rise in junk food and beverage prices dissuaded some price-sensitive customers from consumption . As a result, PepsiCo’s organic revenue from the foods business in the country declined by a low-single-digit percent. Beverage volumes also fell in Mexico to cause a 1% decline in overall Latin America volumes. This fall in Mexico sales comes after several consecutive quarters of growth, and is expected to continue to negatively impact the company’s business this year.
Margins Improve Due To Increased Productivity
PepsiCo achieved operating margins of 14.3%, up 100 basis points over 2013, mainly due to productivity gains. The company had earlier announced its five-year productivity savings plan for 2015-2019, according to which it plans to save $1 billion each year by optimizing global manufacturing operations and simplifying organization systems to drive efficiency. PepsiCo is on course to draw an incremental $1 billion in savings this year, after saving $900 million in 2013, as part of its savings program for the period of 2012-2014.
Key Earnings Takeaways
- Maximum growth for PepsiCo came from Russia and Brazil, reporting double-digit increases in sales. Russia is the largest international market for the company, and together with Brazil, constituted 10% of the company’s net sales last year.
- Despite our earlier estimates, organic volume for Quaker Foods North America increased 3% in this quarter, gaining market share in the three breakfast segments of hot cereals, ready-to-eat cereals and snack bars.
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- “PepsiCo Earnings“ [↩]
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- “Latest beverage stats positive for all but CSDs“, March 2014, cspnet.com [↩]
- “Soda consumption keeps declining in the US, especially diet soda“, April 2014, businessinsider.com [↩]
- “How real sugar could boost Pepsi“, April 2014, finance.yahoo.com [↩]
- “Poverty headcount ratio at national poverty line“, worldbank.com [↩]