What’s Happening With Coca-Cola Stock?

Coca-Cola stock (NYSE:KO) stock has surged 15% this year, outperforming the S&P 500, which is up 2%. This impressive rally raises a crucial question for investors: Is KO stock currently overvalued, and could it experience a significant correction, perhaps by 25-30% or even 50% to below $40?

Well, here’s the concern – at approximately $70 per share, KO stock appears expensive. It’s trading at 29 times its earnings over the last twelve months. To put that in perspective, this translates to an earnings yield of just 3.4%. For context, Google, a leader in the search business with 10% average revenue growth in recent years, trades at a lower multiple of 19 times earnings. Coca-Cola’s average revenue growth of just around 2% in the last three years, is not enough to justify such a high multiple. What you pay, matters. We have constructed the Trefis High-Quality Portfolio with an eye toward relative valuation. Notably, HQ clocked >91% return since inception and outperformed S&P, Nasdaq, Dow — all of them. Separately, see –Will Adobe Stock See Higher Levels?

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Why Is Coca-Cola So Expensive?

Coca-Cola’s current valuation is being driven by good organic sales growth, which saw a 6% year-over-year increase in the latest quarter. This growth is a result of several key factors: rising sales volumes, effective pricing strategies, and successful revenue growth management. Additionally, the company’s efforts to enhance cold drink equipment placement and optimize its brand mix towards higher-margin products are further fueling its growth.

Beyond top-line growth, Coca-Cola has also demonstrated margin expansion. Its operating margin has impressively climbed from 28% in 2022 to a respectable 30% over the last twelve months, indicating improved operational efficiency and profitability.

What’s Next for Coca-Cola?

While Coca-Cola’s organic revenue growth is likely to remain in the mid-single-digits, its margin expansion isn’t expected to continue at the same pace. This suggests that Coca-Cola’s valuation should align more closely with other companies experiencing 5-10% revenue growth.

For instance, consider Block Inc., which trades at roughly 15 times earnings and boasts a 13% average annual growth rate. Compared to this, Coca-Cola’s current valuation appears stretched. If Coca-Cola were valued at Block’s multiple of 15 times earnings, its stock price would be closer to $40 per share. This raises a crucial question for investors: does Coca-Cola’s growth profile even warrant a lower multiple than that?

Why Coca-Cola Might Still Be a Reasonable Investment

Despite concerns about mature market saturation, Coca-Cola’s performance is intrinsically linked to global economic growth, rising disposable incomes, and population expansion, especially in emerging markets.

A strengthening economy, fueled by stabilizing inflation and renewed consumer confidence, could significantly boost discretionary spending and out-of-home consumption. This increased economic activity directly translates to higher demand across all channels. Crucially, higher per-capita consumption in developing markets also drives demand for the company’s high-margin concentrate business, its most profitable segment.

Furthermore, in volatile market conditions, Coca-Cola often serves as a “safe haven” investment. When uncertainties like trade tariffs loom, investors tend to flock to stable, well-established companies with predictable earnings. This increased demand for safety can drive up valuations, even for companies with more modest growth prospects.

Understanding Risk-Reward Through Comparison

Comparing Coca-Cola with companies like Google and Block isn’t about finding direct equivalents, but rather about understanding the relative attractiveness and risk-reward trade-offs of an investment. When considering KO, investors should weigh its potential returns against alternatives like holding cash (earning interest) or investing in a broad market ETF like the S&P 500.

Using “anchor” assets like Google and Block, which trade at comparatively low multiples, and provide a critical perspective on the risk-reward profile of KO. These comparisons help investors assess whether the expected return on KO stock justifies the associated downside risk, especially given that these anchor stocks offer more compelling growth narratives. This analytical approach is crucial for making informed investment decisions.

No matter the trade-off, investing in a single stock can be risky. On the other hand, the Trefis High Quality (HQ) Portfolio, with a selection of 30 stocks, has demonstrated a history of comfortably outperforming the S&P 500 over the past 4-year span. What accounts for this? As a collective, HQ Portfolio stocks achieved superior returns with reduced risk compared to the standard index, with a smoother performance evident in HQ Portfolio performance metrics.

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