3 Beverage Stocks To Buy For 2015

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Includes: DPS, GMCR, KO, MNST, PEP
by: Equity Watch

Summary

DPS, PEP and KO on track to delivering healthy financial performances next year.

Their product innovation efforts will support top-line growths.

Cost saving efforts will support EPS growths and margin expansions in coming quarters.

The U.S. Beverage Industry has been going through difficult times, as increasing health concerns and regulations (soda taxes) have been weighing on the industry's sales volume growth. In efforts to grow top and bottom-line numbers, three leading U.S. beverage companies, including The Coca-Cola Company (NYSE:KO), PepsiCo (NYSE:PEP) and Dr Pepper Snapple (NYSE:DPS), have been focusing on product innovation to support sales volume growth. In 2014, DPS and PEP outperformed, whereas KO underperformed the broad market (S&P 500). As we head into 2015, I believe the three abovementioned beverage companies will deliver healthy performances next year. Efforts to diversify and strengthen product portfolios, cost cut initiatives, favorable commodity cost environment and share repurchases will support top and bottom-line growths of the companies in 2015.

Set To Deliver in 2015

In 2014, two of the three abovementioned beverage companies outperformed the broad market; PEP and DPS outperformed, while KO underperformed the market. PEP's strong performance was mainly due to its significant exposure to high growth snacks and its efforts to improve operational efficiencies. Separately, despite the prevailing challenges in the industry, DPS' stock is up 50% year-to-date, and the strong stock performance is attributed to its product innovation efforts, aggressive cost cut efforts under its Rapid Continuous Improvement (NYSE:RCI) program and earnings beats for the last four quarters. KO's performance in recent quarters has been adversely affected by weaknesses in key global markets and currency headwinds. The following table shows the stock price performance of PEP, DPS and KO in comparison to the S&P 500 from 2011 through 2014.

2011

2012

2013

2014 (year-to-date)

DPS

12%

11%

10%

50%

PEP

2%

3%

20%

17%

KO

6%

4%

15%

4%

S&P 500

0%

14%

29.5%

13%

Source: googlefinance.com

As we are heading into 2015, I believe DPS, PEP and KO are set to deliver healthy performances next year. In 2015, the companies will focus on diversifying and strengthening their product portfolios, and will introduce several new products in the market, consistent with changing consumer preferences. The product innovation efforts will fuel top-line growths of the companies. As demand for carbonated soft drinks is adversely affected by increasing health awareness among consumers, PEP, DPS and KO are making efforts to increase their exposure to non-carbonated soft drinks (like coffee and ready-to-drink tea). From 2014-2017, the non-alcoholic ready-to-drink (NARTD) category is expected to grow at an average rate of 5.8%; the category growth will be fueled by growing demand for coffee, ready-to-drink tea and other energy drinks.

PEP is likely to continue delivering a healthy financial performance in 2015. PEP's significant exposure to the high growth snacks category will be the main earnings growth driver in coming years. The company generates approximately 30% of its total sales from the carbonated soft drink category, while the snacks category contributes more than two quarters towards its total sales. Also, PEP's management has been under pressure, since N. Peltz acquired a stake in the company, to improve its operational efficiencies and cut costs. The company has announced a future cost saving plan, under which it expects to save $5 billion from 2015-2019. The company is focusing on improving its supply chain and operational efficiencies to improve its cost structure. Due to its efforts to improve operational efficiencies, the company is likely to improve its gross and operating margins by 50bps and 30bps, respectively, in 2014. Also, analysts are anticipating a healthy next five-year growth rate of 7.55% for PEP. And the stock offers a healthy dividend yield of 2.7%, which is backed by its free cash flow yield of 4.5%.

DPS has been delivering a healthy financial performance, which has positively affected its stock price. The company has been aggressively working to strengthen its product portfolio, and DPS is set to introduce several new products in early 2015, which will fuel its top-line growth. Moreover, DPS has been successfully undertaking cost cuts under its multi-year RCI program. The company's cost cut efforts have been supporting its healthy EPS growth and have helped it report earnings beats in the last four quarters. DPS is expected to increase its gross and operating margins by 40bps and 100bps, respectively, in 2014. Also, analysts have anticipated a robust next five-year earnings growth rate of 8.10%. In addition to attractive growth prospects, the stock offers a dividend yield of 2.3%, which is backed by its free cash flow yield of 6%.

In 2014, KO underperformed the market, as weaknesses in its key global markets and currency headwinds weighed on its performance. The company generates approximately three quarters of its total sales from the carbonated soft drink category. However, the company has taken aggressive and correct measures in 2014, which will positively affect its performance in 2015. The company has acquired stakes in Keurig Green Mountain (NASDAQ:GMCR) and Monster (NASDAQ:MNST), which will fuel its growth in future. Also, the company has accelerated its cost cut efforts and is targeting annual cost savings of $3 billion by 2019. The cost savings will positively affect its EPS growth and margins. The company is expected to experience gross and operating margins improvements of 35bps and 10bps in 2014, and the margin improvement will accelerate in future owing to the recent $3 billion annual cost saving plan. Analysts are anticipating a healthy next five-year earnings growth rate of 6.5% for KO. Also, KO offers a dividend yield of 2.9%, which is backed by its free cash flow yield of 3.5%.

Moreover, a favorable commodity cost outlook for 2015 will positively affect margins and earnings growth of the companies in coming quarters. However, currency headwinds (strengthening of U.S. Dollar) remain a concern for PEP and KO, as both companies generate significant proportions of their sales from international markets. The strengthening of the U.S. Dollar will have a negative impact of 2% and 3.5% on the sales growths of PEP and KO, respectively, in 2014. Also, the adverse currency movements are likely to continue in 2015, and are expected to have a negative impact of 3%-4% each on the sales growths of PEP and KO in 2015.

Conclusion

The three beverage companies have been making the right moves to strengthen their product portfolios, and remain on track to delivering healthy financial performances in 2015. The product innovation efforts will support top-line growths of the companies in 2015. Also, the cost saving efforts will support EPS growths and margin expansions in coming quarters. Moreover, a favorable commodity cost outlook will positively affect the margins of the companies. Along with healthy growth prospects, the three companies offer healthy and safe dividend yields, which make them attractive investment options for dividend investors. The following table shows the dividend yields and the next five-year earnings growths for PEP, DPS and KO.

PEP

DPS

KO

Dividend Yield

2.7%

2.3%

2.9%

Next 5-Year Growth

7.5%

8.10%

6.5%

Source: Yahoo Finance and Nasdaq.com

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.