Why Dr Pepper Snapple Is Undervalued Right Now

| About: Dr Pepper (DPS)
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This article is part of an ongoing series that highlights specific companies that are on sale. It helps me to document my thought processes when I add to my holdings or initiate new positions. Please provide your feedback in the comments section below.

Dr. Pepper Snapple (NYSE:DPS) is currently offering investors an opportunity to buy portions of the company at about $43.50/share. The stock has been consolidating in this level for the past few days and may provide a good entry point. This is over 10% off the 52 week high, hit about five months ago at over $49 per ownership interest. Dr. Pepper Snapple has been trending steadily down since peaking in May. This pullback provides long term investors with a good opportunity to initiate a position.

DPS has a business model that is simple and sustainable. They provide their namesake beverages, among other non-alcoholic drinks, to North America. According to the 2012 Annual Report, net sales increased 2% year over year. It also grew the Dr. Pepper beverage's dollar share for the fifth consecutive year. Even the Snapple beverage's volume grew 3% in 2012. A steady, upward trend of growth has been established, and I believe that it will continue.

Despite the growth, DPS trades at a discount to its peers. DPS currently trades at under 15 times ttm earnings. By contrast, both Coca-Cola (NYSE:KO) and Pepsi (NYSE:PEP) trade at around 19 earnings. Applying a P/E of 19 to DPS's trailing twelve month EPS of $2.92 would give a stock price of over $55. Given a few years, I believe that DPS will trade on par with these two competitors. In the meantime, I am content to accumulate shares at this perceived discount.

Additionally, Dr. Pepper Snapple is a cannibal! DPS has been buying back it's own stock at rates that dominate its competitors. Just a few years ago, there were over 250 million shares outstanding of DPS. Today, there are 204 million shares. In just four short years, Dr. Pepper Snapple has retired 20% of its outstanding share volume! From 2010 to 2012, DPS repurchased over $2 billion of its shares...and this is a company with a $9 billion market cap. According to the 2012 Annual Report, DPS plans on buying back about $400 million worth of shares in 2013. At the current price, that's over 9 million shares, or 4.5% of the outstanding share count.

Think about that for a minute - DPS plans on buying back almost 5% of the outstanding shares this year. How will that affect earnings? Analyst expectations are very low. Dr. Pepper Snapple is set to report its Q3 earnings on October 23rd, and analysts are expecting a consensus EPS of $0.83, which is less than Q2's EPS of $0.84. Q3 EPS from 2012 was only $0.79. It doesn't appear that analysts are expecting much, if anything, from DPS. With DPS's large share buyback activity, it wouldn't have to make more in total earnings to affect the bottom-line EPS. I believe that Dr. Pepper Snapple will have a positive surprise, and this is the catalyst that will cause DPS to break it's downward trend and close substantially higher at the end of 2013.

Additionally, DPS has an above-average yield. You literally get paid to wait. Dr. Pepper Snapple has a current yield of 3.5%, while KO and PEP have yields of 3% and 2.9%, respectively. DPS's dividend is literally 15% higher than its peers. Dr. Pepper Snapple has raised its dividend for four consecutive years, every year since it was spun off. Next year, it will be added to the Dividend Challenger's list, which will cause more people to be looking at it. Now is the time to get in, before the increased attention. DPS's yield is the highest it's been in the past year, and I don't believe it will stay this high very long.

Speaking of DPS's dividend increases, DPS paid a quarterly dividend of $0.15 at the beginning of 2011. In March of 2013, the quarterly dividend was increased to $0.38. They have increased their dividend by over 150% in two years for an annual dividend growth rate (DGR) of 60%. By contrast, both Coca-Cola and Pepsi have 5 year average DGR's of about 9%. So, not only do you get paid to wait at a higher yield, but your income stream is growing at much faster rates than it's competitors. DPS is both a buyback king and a dividend king!

As always, this article represents my opinions at the time of writing. You should do your own due diligence before making any decisions. However, I believe that DPS represents a quality company that is trading hands at a discount.

Disclosure: I am long DPS, KO. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.