At this moment, PepsiCo is one stock that is closely watched by US Dividend Growth bloggers. Over the past one year, its share price has been on a downtrend.
PepsiCo is a dividend aristocrat. It has boasted yearly dividend increases for the past 46 years. Just 4 more years to go and PepsiCo will join an even more exclusive group - the Dividend Kings, businesses that have grown their dividends for 50 years in a row.
I know I will get this question, so I will address it first. Why PepsiCo? Why not the Coca-Cola Company? The Coca Cola Company is primarily a beverage company. According to the 2017 Annual Report, the company owns, licenses, and markets more than 500 nonalcoholic beverage brands, which is grouped into the following categories: (a) sparkling soft drinks, (b) water, (c) enhanced water and sports drinks, (d) juice, dairy and plant-based beverages, (e) tea and coffee, and (f) energy drinks.
In contrast, PepsiCo is a more diversified business. It is a beverage and snacks company. A significant portion of their revenue is contributed by their snack/food business (see below).
Similar to other consumer staples, PepsiCo's top-line growth is stagnating as consumer trends are changing. There is an increased demand for healthier food and beverage options. According to their 2017 Annual Report, it can be observed that PepsiCo has been proactive in this regard. They classified their portfolio of brands into one of three categories: (a) fun for you, (b) better for you, and (c) good for you, with the latter categories appealing more to the health-conscious folks.
Over the years, they have been building up on healthier food and beverage offerings.
The above screenshot from Morningstar shows a snapshot of PepsiCo's financials. Revenue has stagnated while net income has dropped in 2017.
As a dividend growth investor, the 2017 and TTM EPS payout ratio looks quite concerning. If earnings do not improve, dividend growth will eventually hit a ceiling.
Another way to look at whether the dividend payout is sustainable is to look at the Free Cash Flow (FCF) payout ratio. Unlike the EPS payout ratio which includes non-cash accounting-related charges, the FCF payout ratio measures the actual cash generated by the business. Using the FCF data from Morningstar, the following chart shows the FCF payout ratio for PepsiCo.
I do not have the FCF data for TTM though. Anyway, the FCF payout ratio looks slightly better, but it is still on the high side.
As mentioned above, PepsiCo is operating in a competitive environment where consumers are increasingly turning towards healthier food and beverage options. I would expect that per-year dividend growth would be smaller compared to earlier years. How does the data pan out? First, let us take a look at the dividend history.
The above chart is generated by my R script where I define dividend payout by calendar year instead of financial year. As the data source is from yahoo finance, if I recall correctly, yahoo tracks dividends distributed by Ex-Dividend date instead of Payment Date.
Initially, I thought my chart was wrong. The huge column in 1997 was when PepsiCo spinned off their Pizza Hut, Taco Bell, and KFC businesses as Tricon Global Restaurants (now known as YUM! Brands). I can't find any information about a "special dividend" from the spin-off though. Similarly, I suspect that any increases in dividends followed by decreases could be due to special dividends, else PepsiCo would be thrown off the Dividend Aristocrat list.
What about the trend in dividend growth?
The PepsiCo dividend growth chart is plagued with the same issues as the previous chart. It may include special dividends, hence there could be periods of "negative growth" which does not make sense. After manually excluding 1997 and all the "negative growth years", I am left with the following:
From the above chart, it could be said that there was greater dividend growth in the earlier years of PepsiCo than in the later years. Take my inference with a healthy dose of skepticism though. I have not manually checked and removed every single special dividend (if any) from the above chart and it may be inaccurate.
If you refer to the Morningstar screenshot above, the ROE history of PepsiCo has always been on the high side, even when net income is stagnant or decreasing. This is unusual and merits investigation. The DuPont Analysis could be conducted to break down ROE into its constituent components to identify which components could account for the high ROE. One of these constituents is the equity multiplier which measures financial leverage - the extent to which a business uses debt (as compared to equity) to finance its operations. I suspect that more insights could be gleaned from looking at this particular ratio.
The table above shows that shareholder's equity is on a downtrend because of share buybacks. As a result, the role that debt plays in the company has increased.
The above screenshot from Morningstar shows the PE history of PepsiCo. Similar to most consumer staples in this current bull market, PepsiCo trades at > 20 PE. Juxtapose the above PE history screenshot with the previous table on Total Assets/Shareholder's Equity/Equity Multiplier and you will realize that PepsiCo bought back quite a significant amount of shares when the valuation was rich in 2015. Personally, I do not like to see this.
What about PepsiCo's valuation?
For year 2017, PepsiCo reported an EPS of $3.38 in their 2017 Annual Report. I took the daily adjusted closing price for PepsiCo from 1 January 2017 to 31 December 2017 and divided it by $3.38, followed by averaging the results by the number of days the US stock market was opened. I obtained an average PE ratio of 32.7 for year 2017. This is contrary to the figure of 24.8 presented on Morningstar's website.
What about their TTM PE ratio, if I were to calculate it myself?
Q2 2017 EPS: $1.46
Q3 2017 EPS: $1.49
Q4 2017 EPS: -$0.50 (because of tax changes in the US)
Q1 2018 EPS: $0.94
TTM EPS: $3.39
Current TTM PE Ratio: $97.43/$3.39 = 28.7
Using technical indicators, plenty of US Dividend Growth bloggers have either initiated or added to their PepsiCo holdings. It has finally breached support and is near to its 52-week low. Fundamentals-wise, PepsiCo is still pricey.
Not vested in PepsiCo. Still watching and waiting.