PepsiCo is a multinational food, beverage, and snack company with a portfolio of products and brands in the global market. The company manufactures, markets, distributes and sells its wide range of products to more than 200 countries and regions. The company is listed under the NASDAQ market with the ticker symbol PEP. According to NASDAQ’s industrial classification, PepsiCo is under the Beverages – Production and Distribution industry with competitors like Coca-Cola and Monster Beverage Corporation. PepsiCo is a company whose performance is of interest to many investors and stakeholders. This paper provides an industry analysis and financial statement analysis on PepsiCo to give a detailed conclusion on the company’s performance.
Industry Analysis
The Beverages – Production and Distribution industry is one of the largest industry due to the high demand for food and beverage worldwide. The industry is comprised of companies that have many commonalities but also differences. The industry faces increased commoditization and product diversification that has led to increased difficulty for companies to differentiate their products and services (FoodOnline, 2018) . Consumers, in the modern market, are more informed hence they are demanding diverse product variety, higher service levels, and most of all – value for their money. Food and beverage companies have to keep up with these trends by strategizing ways to meet consumer needs. Increased global competition does not make it easier either do the stringent government regulations.
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However, these challenges have brought opportunities for companies in the industry to search for manufacturing and supply chain processes that will improve production efficiency while reducing overall costs to the company. PepsiCo is among the companies that have taken advantage of research and development to stay afloat of the changing consumer demands and preferences. PepsiCo engages in a variety of research and development activities while investing in innovation to meet this dynamic need (Pepsico, 2017) . The company uses research and innovation to develop new ingredients, flavors, and products that will lead to an improved quality to existing products. The packaging technology is an important part in innovation to ensure the company keeps up with the regulations and social responsibility of environmental conservation.
In 2017, PepsiCo advanced their beverages to reduce the levels of added sugar, sodium and saturated fats. This move was necessary because consumers are more aware of healthy living and eating (Pepsico, 2017) . There are now a variety of products by the company to meet the health needs of diverse consumers.
Stringent regulations are an issue in the industry. However, PepsiCo has strategized ways to ensure adherence to relevant regulations in the different jurisdictions. These regulations pose a great risk to the operations of the company. The most recent change has been the Tax Cuts and Jobs Act (TCJ) imposed in 2017. This Act requires a one-time mandatory transition tax on undistributed global earnings despite whether they are deported (Pepsico, 2017) . The act also imposed limitations on the deductibility of interests and other corporate deductions. These changes have a great impact on the company performance and financial results.
PepsiCo faces major competition from Coca-Cola , Kellogg, DPSG, Monster, Nestle, and Red Bull. These are companies with brands and products that can have a great impact on the sales and business performance of PepsiCo. However, PepsiCo ensures a competitive advantage on the basis of brand loyalty and recognition, taste and quality, price and product variety, innovation and marketing mix operations (Pepsico, 2017) . PepsiCo is also able to anticipate the changes in consumer trends and preferences to ensure they remain competitive in all the markets. Competition can be a big disruption to the financial performance and operations of the company.
Analyst Reports
According to Zacks’ analyst report, investors of PepsiCo’s shares should hold on buying or selling the shares. The company shares have outperformed the industry year up to December 16, 2018. The PepsiCo’s results on the 2018 third-quarter were impressive with higher sales than the estimates in five of the last seven quarters. The company also recorded higher revenue growth which propelled high performance in international divisions. According to Zack (2018) , the company is also facing stressed margins for a period due to inflation on operating and commodity costs. The increased consumer knowledge and healthy living and new taxes are affecting sales and growth in beverage commodities.
Zack analyst rank the company shares are rank 3-Hold with a value of C, growth rank of B, Momentum of B and VGM of C. Zack explains that investors should buy the shares due to the increased earnings trend and stock outperform in the past years. PepsiCo also has a highly competitive advantage of selling its products which will result in cost reduction, risk sharing, and commercial advantages (Zack, 2018) . The focus on innovation is also a reason to buy the company shares as this plays a major impact on company success. The company’s global presence and high shareholder returns are attractive features that indicate buying is a good investment move. However, investors should look out for strained margins, unfavorable foreign currency, slowing market trends, and industry challenges – these are reasons to sell the shares.
According to Yahoo Finance (2018) , most analysts support that PepsiCo shares underperformed between September and December 2018. An average of 10 analysts states that investors should buy the shares while an average of 3 supports a strong buy. According to WSJ analyst, investors should hold the PepsiCo shares. Analysts expect that the share earnings will reduce from $1.49 to $1.01 in quarter one of 2019. The graph below shows the changes in estimates in 2018 and 2019:
Figure 1 : Analysts Estimates (WSJ, 2018)
The strengths and weaknesses of the company make it important for investors to hold their shares. The risk of uncertainty on what the performance will be amidst the expected changes in the industry makes holding a better investment move.
Financial Ratio Analysis
Financial ratios can communicate so much on the performance of a company. Financial ratios analyze the efficiency, liquidity, solvency, profitability, and market performance of a company. In this case, we analyze the financial performance of PepsiCo based on these ratios and the industry performance of the company in the years 2017 and 2016.
In 2017, PepsiCo recorded a return on equity of 44.19% compared to 54.99% in 2016. ROE shows the company’s profitability by evaluating its ability to use shareholder’s equity to generate income. A reduction in ROE shows a decrease in profitability over the two years. PepsiCo recorded a decrease in net income between the two years hence the decrease in ROE. This decrease can be explained by the great increase in taxes following the TCJ tax that took effect in 2017. The act increased the income tax rate from 25.4% in 2016 to 48.9% in 2017. The same applies to the ROA between 2016 and 2017 which decreased from 8.84% to 6.34%, respectively (Pepsico, 2017) . ROA is also a show of profitability by evaluating how the company uses its assets to generate income.
The gross profit margin decreased from 55.08% to 54.69% - a slight deviation. The profit margin, however , decreased from 10.08% in 2016 to 7.65% in 2017 (Pepsico, 2017) . Zack explains that PepsiCo has had to strain gross margins due to the commodity cost inflation. It is also evident that the operating profit in the two years decreased due to a slight decrease in sales revenue. The net profit, however, had a great decrease due to increased expenses especially the provision for income taxes (Note 5) in the two years. The company, therefore, has decreased profitability due to the adverse changes in inflation and regulations affecting the industry. Unfavorable foreign exchange also explains the straining profitability as this affects the net revenue of the company. The high costs in research and development also explain the decreasing net income in the two years - $737 million in 2017 and $760 million in 2016.
Efficiency ratios evaluate the ability of a company to use its assets to generate income. One such ratio is the accounts receivable turnover that evaluate the ability of a company to convert its debtors to income within a short period. In 2016, PepsiCo’s accounts receivable turnover was 0.10 while in 2017 was 0.11. The company only allows for 30 days in credit for US debtors and 30-90 days for international consumers (Pepsico, 2017) . This credit period explains the high efficiency based on the accounts receivable turnover ratio. The inventory turnover is a measure of how well the company is able to convert its inventory to sales. The ratio in both years indicates high efficiency because the company holds inventory for an average of 35 days which is consistent with their credit period policy.
PepsiCo has a high level of debt than equity hence a high leverage ratio. The debt to equity ratio in 2017 was 6.27 and 5.56 in 2016. In 2017, the total liabilities were $688 million and $623 million in 2016 while the total equity was $10.9 million in 2017 and $11 million in 2016 (Pepsico, 2017) . This dispersion in total debt and equity explain the high financial leverage. PepsiCo is at risk of solvency if it is unable to meet its financial obligations when they fall due. However, the company has a high-interest coverage of 9.34 in 2017 and 7.37 in 2016. This high ratio is a great sign of low solvency risk.
PepsiCo has a high liquidity of 1.52 in 2017 and 1.25 in 2016. This increase is attributable to the increased current assets and reduced current liabilities in the two years. PepsiCo has a high liquidity and high leverage hence the risk of insolvency is low. The company can use its highly liquid assets to pay the company debt. PepsiCo has more assets than liabilities – the current ratio shows that PepsiCo can pay off all its debts with its assets.
The company’s share price performance in the past year is shown in the graph below.
Figure 2 : Share Price Performance (Bloomberg, 2018)
I believe the share is valued fairly because analyst reports show it is and the performance of the company correlates to the share prices. It is a true show of the company’s value in the market.
Conclusion
According to the industry and financial statement analysis, PepsiCo is a well-performing company. The company has a higher competitive advantage in the industry compared to its competitors. PepsiCo has a great strategy to ensure that it maintains this competitive advantage by ensuring brand loyalty, innovations, and developments to keep up with changing consumer preferences. According to analysts, the PepsiCo shares are worth buying due to the performance and competitive advantage of the company. I would invest in the shares due to these reasons. PepsiCo is a profitable, efficient, solvent, and highly liquid company. These characteristics make it a great company to invest in. The strategies that the company has in place to keep up its competitive advantage show a sustainable investment.
References
Bloomberg. (2018). PEP: US . Retrieved from Bloomberg: https://www.bloomberg.com/quote/PEP:US
Pepsico. (2017). Investors: SEC Annual Fillings . Retrieved from Pepsico: http://services.corporate-ir.net/SEC/Document.Service?id=P3VybD1hSFIwY0RvdkwyRndhUzUwWlc1cmQybDZZWEprTG1OdmJTOWtiM2R1Ykc5aFpDNXdhSEEvWVdOMGFXOXVQVkJFUmlacGNHRm5aVDB4TVRRd01qQXlPU1p6ZFdKemFXUTlOVGM9JnR5cGU9MiZmbj1QZXBzaUNvXzEwS18yMDE3MDIxNS5wZGY=
WSJ. (2018). Research Ratings . Retrieved from WSJ: https://quotes.wsj.com/PEP/research-ratings
Yahoo Finance. (2018). PEP Analysis . Retrieved from Yahoo Finance: https://finance.yahoo.com/quote/PEP/analysis/
Zack. (2018, December). PEP . Retrieved from Zack Website: https://www.zacks.com/stock/quote/PEP
