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Introduction

Pepsi (PEP) is a great investment in turbulent times. This non-cyclical defensive stock is likely to be an exceptional safe-haven, if the U.S. economy falls of the fiscal cliff.

Qualitative Analysis

Source: Information pertaining to Pepsi came from the shareholder annual report

Pepsi is a beverage and snack company. The company is split into 6 locational demographics: FLNA (Frito-Lay North America), QFNA (Quaker Food North America), LAF (Latin American food and snack business), PAB (PepsiCo Americas Beverages), Europe (Pepsi Co Beverages and Snacks in Europe), and AMEA (PepsiCo Beverages and Snacks in Asia, Middle East, and Africa).

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The PepsiCo Americas Beverage Division (PAB) is the largest division, with Europe in second, and Frito-Lay North America in third place.

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Pepsi's fastest growing locational demographic is the AMEA, Europe, and Latin America divisions. The growth of these divisions keeps me optimistic on the Pepsi's growth prospects going forward.

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Pepsi is reallocating capital from the European and United States divisions into the Asian, Middle East, Africa, Latin America, and Frito Lay divisions. This portfolio asset re-allocation strategy is likely to succeed.

Food products are inelastic with an elasticity rating of 0.12. Snacks are a form of food, and can be bought on subsidized food stamps. Pepsi's food products are recession-proof. The products are not price sensitive, so Pepsi will be able to consistently raise prices at a point that maximizes profit.

Beverages are inelastic. The elasticity rating for beverages is 0.78. The products are not price sensitive, so Pepsi will be able to consistently raise prices at a point that maximizes profit. Beverages can be bought with food stamps making them a subsidized good, further sheltering Pepsi from macro-economic uncertainties.

Pepsi competes for market share with Coca Cola (KO), Formento Economico Mexicano SAB (FMX), Dr Pepper Snapple Group (DPS), Monster Beverages (MNST), among others.

Technical Analysis

Pepsi had a strong start to 2012, going from $62 a share all the way up to $73.50 per share. This stock is -7.66% off its 52-week high. The stock is likely to re-cover in valuation from the double-bottom formation as company earnings are likely to improve in the foreseeable future.

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Source: Chart from freestockcharts.com

The stock is trading below the 20-, 50-, and 200- Day Moving Average. The stock is in a down-trend. However, I think the stock may find a bottom at $68.00 per share as the recent sell-off had more to do with the fiscal cliff and less to do with the company's fundamentals. I anticipate the stock to recover on Friday's support, trade range bound within the triangle formation, then trade above the descending triangle formation by Q2 2013.

Notable support is $62.00, $65.00, and $67.00 per share.

Notable resistance is $70.00, $72.00, and $74.00 per share.

Street Assessment

Analysts on a consensus basis have low expectations for the company going forward.

Growth Est

PEP

Industry

Sector

S&P 500

Current Qtr.

-8.70%

38.30%

165.30%

9.40%

Next Qtr.

5.80%

27.80%

121.70%

15.00%

This Year

-7.50%

7.90%

11.90%

7.10%

Next Year

8.40%

8.40%

2.40%

13.10%

Past 5 Years (per annum)

4.88%

N/A

N/A

N/A

Next 5 Years (per annum)

4.25%

13.02%

13.54%

9.10%

Price/Earnings (avg. for comparison categories)

16.71

21.92

15.33

12.49

PEG Ratio (avg. for comparison categories)

3.93

1.83

1.69

1.34

Source: Table and data from Yahoo Finance

Analysts on a consensus basis have a 5-year average growth rate forecast of 4.25% (based on the above table).

Earnings History

11-Dec

12-Mar

12-Jun

12-Sep

EPS Est

1.13

0.67

1.09

1.16

EPS Actual

1.15

0.69

1.12

1.2

Difference

0.02

0.02

0.03

0.04

Surprise %

1.80%

3.00%

2.80%

3.40%

Source: Table and data from Yahoo Finance

The average surprise percentage is 2.75% above analyst forecasted earnings over the past four quarters (based on the above table).

Forecast and History

Year

Basic EPS

P/E Multiple

2003

$ 2.07

22.52

2004

$ 2.45

21.31

2005

$ 2.43

24.31

2006

$ 3.42

18.29

2007

$ 3.48

21.81

2008

$ 3.26

16.8

2009

$ 3.81

15.96

2010

$ 3.97

16.46

2011

$ 4.08

16.26

2012

$ 4.07

16.71

Source: Table created by Alex Cho, data from shareholder annual report, and price history is from Yahoo Finance.

The EPS figure shows that throughout the 2003- 2012 period, the company was able to grow earnings. The company is non-cyclical.

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Source: Table created by Alex Cho, data from shareholder annual report

The company's investment into foreign markets will result in higher growth rates. Pepsi will improve profit margins by raising the unit prices of its products. This keeps me optimistic; therefore I remain optimistic on the company.

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Source: Forecast and table by Alex Cho

By 2018 I anticipate the company to generate $5.46 in earnings per share. This is because of foreign investment, earnings management, and improving global outlook.

The forecast is proprietary, and below is a non-linear chart indicating the price of the stock over the next 5-years.

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Source: Forecast and chart by Alex Cho

Below is a price chart incorporating the past 10 years and the next 6 years. Detailing 16 years in pricing based on my forecast and price history on December 31st of each year.

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Source: Forecast and chart created by Alex Cho, data from shareholder annual report, and price history is from Yahoo Finance.

Investment Strategy

PEP currently trades at $68.02. I have a price forecast of $83.97 for December 31st 2013. The stock is below value, and I anticipate a price recovery during 2013.

Short Term

Over the next twelve months, the stock is likely to appreciate from $68.02 to $83.97 per share. This implies 24% upside from current levels. The stock will reverse in trend, therefore I anticipate the stock to eventually recover going into Q2 2013.

Investors should buy PEP at $68.02 and sell at $83.97 in order to pocket short-term gains of 24% in 2013.

Long Term

The company is a decent investment for the long-term. I anticipate PEP to deliver upon the price and earnings forecast despite the risk factors (competition, fiscal cliff, economic environment). PEP's primary upside catalyst is international expansion and earnings management. I anticipate the company to deliver upon my forecasted price target of $103.99 by 2018. This implies a return of 52% by 2018. When factoring back in the dividends (based on the table below) the company will generate a combined return of 83.67%. This rate of return comes with low-risk (5-year beta of 0.5).

Year

Dividend Yield @ $69.48 per share

Cumulative Total

2012

3.51

3.51

2013

3.92

3.92

2014

4.39

8.31

2015

4.90

13.21

2016

5.48

18.70

2017

6.13

24.82

2018

6.85

31.67

Source: Forecast and table by Alex Cho, dividend data from shareholder annual report

A higher yielding investment opportunity albeit having higher risk is to buy the Jan 17, 2015 call option at the $70.00 strike. The call premiums trade at $4.52. The price forecast for the end of 2014 is $87.64. The rate of return if the calls expire at $87.64 is 290%, the option will break-even when the stock trades at $74.52.

PEP has a market capitalization of $102.5 billion; the added liquidity makes this an investment opportunity appropriate for larger institutions that require added liquidity.

Conclusion

Investors should remain optimistic on Pepsi despite the recent losing streak in the stock price; I anticipate the stock to recover in Q2 2013.

The conclusion remains simple: buy Pepsi for protection.

Source: Hedge The Fiscal Cliff With Pepsi