PepsiCo Mid-Year Earnings: What To Expect?

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PepsiCo (NYSE:PEP) will announce its mid-year results on July 9, and much of our attention will be on the growth in beverages and in emerging markets, which could be a letdown due to a continual decline in soda sales and tough macroeconomic conditions in some countries. But, for a company which has looked to reduce the sugar and salt content in its packaged foods and drinks, and launch more nutritional and healthier products, ‘junk’ food is one of the main growth drivers for the manufacturer. The fact that beverages such as sodas and juices, might continue to decline again this quarter, could add more fuel to the argument made by investors to spin-off the ailing drinks business, and let the foods division function as a separate company. Being the leader in salty snacks in most markets, and considering how more than half the net revenues are contributed by snacks, PepsiCo’s core foods business is expected to drive growth in the top line, as well as profits, yet again this quarter. And this is what we will focus on.

We estimate a $98 price for PepsiCo, which is above the current market price.

See Our Complete Analysis For PepsiCo

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PepsiCo’s strong organic growth of 4.4% in Q1 came on the back of a continued strong showing by the snacks division, which forms approximately 64% of the company’s valuation, according to our estimates. [1] The key takeaway from PepsiCo’s Q1 results was that while organic volume for beverages declined 1%, volume for snacks grew 2%. Snacks continue to grow in the U.S., which might seem odd considering the continual push for a healthier lifestyle in the country, which has seen the carbonated soft drinks (CSD) market decline for ten consecutive years now. The U.S. snack food market, worth $35 billion, grew at a CAGR of 4.2% between 2009-2014, and continues to grow on the back of innovations and increasing price per unit, and also as the core salty snacks category continues to grow because of the large snacking habit that Americans have. ((Snack food production in the U.S.))

PepsiCo, which holds around 25.4% volume share in the U.S. liquid refreshment beverage market, second behind Coca-Cola’s 33.6% share, dominates the savory snacks market in the country with a 36.4% market share. [2] The next biggest manufacturers in this sector are Kellogg’s and Mondelez with much smaller 6.8% and 5.3% shares, respectively. According to research by Nielsen, 63% of North Americans said that they ate chips/crisps as a snack in the last 30 days, a segment which is dominated by PepsiCo’s brands such as Lays, Doritos, and Cheetos. While Americans continue to ditch sugary sodas such as Pepsi and even Diet Pepsi, salty snacks continue to attract customers.

PepsiCo Revenues

Following a 3% top line growth in 2014, PepsiCo’s Frito-Lay North America reported 3% revenue growth in Q1 as well, on 3% growth in organic volume. This division alone constitutes 36.8% of PepsiCo’s valuation by our estimates, compared to only 15% constituted by the entire CSD portfolio, which forms roughly 25% of the company’s top line. This is because of continual sales growth for Frito-Lay North America, which is also PepsiCo’s most profitable division, with 27.7% operating margins in the last quarter, compared to 16.6% for the overall company. We believe that with growth in snacks yet again this quarter, especially in the U.S. (which accounts for more than half the net sales), both the top line and bottom line should get a boost.

The other thing to focus on this quarter will be the impact of negative currency translations. Considering that markets outside the U.S. formed 49% of PepsiCo’s revenues in 2014, with over 22% of the net revenues coming from Russia, Mexico, Canada, the U.K., and Brazil, the impact of the strengthening U.S. dollar will be significant on the top line in Q2. The company’s organic sales in emerging countries grew 9% year-over-year last year, however, net revenues fell 1% over 2013 levels on massive negative currency translations. The top line declined 3% last quarter, hurt by more than a 7-percentage-point unfavorable impact of foreign currency depreciation, which is expected to drag down full-year net sales and core EPS by 10 to 11 percentage points.

Here’s a chart comparing the impact of currency translations on the net sales for some of the major beverage makers in the last quarter.

sales growth in Q1 2015

 

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Notes:
  1. PepsiCo 10-q []
  2. U.S. beverage business results for 2014 []