Coming hot off a 10% EPS beat in Q1, dividend investors should think seriously about buying shares of PepsiCo (NYSE:PEP). With a 2.7% yield and strong tailwinds from productivity improvements and R&D spending on new product innovation this is a great stock for you dividend portfolio.
PEP share price vs. dividend yield
PEP delivered Q1 EPS of $0.89 vs. street consensus of $0.81. Management reiterated 2016 guidance of $4.66 in EPS and 4.0% organic growth. Other key highlights include: 3.5% organic revenue growth, 7% organic revenue growth in emerging markets, core margins up 165 basis points.
Management confirmed the business is well-positioned for strength in 2016. 2016 guidance is likely conservative at EPS of $4.82 in 2016 and $5.18 in 2017.
Organic growth is forecasted to be up 4.1% in 2016 and 3.9% in2017.
Pepsi Q1 info-graphic
Source: Pepsi IR.
Pepsi has grown it's dividend significantly over the past five years from less than $0.50 to $0.7025 currently. This increase of over 40% equates to a 7% compound annual growth rate.
At the same time the cash payout ratio has actually gone down over the same period. It peaked at 67% in 2012 and currently sits at 54% on a trailing twelve months basis.
The combination of an increasing quarterly dividend and a declining cash payout ratio over the past 5 years is an excellent buying signal for dividend investors.
Looking forward, there are a few key questions to answer in order determine if this trend will continue.
#1 - Can Frito-Lay North America sustain its historical growth and profitability momentum?
The short answer I believe is, yes. Frito-Lay has a huge degree of pricing power due to it's massive market share (approximpatly 60%!) and I expect at least 3-4% organic growth in that segment.
#2 - Will growth and profitability for the North American Beverage division continue?
In my financial analysis I believe a 2% organic growth for the North American Beverage segment can be achieved by a combination of continued pricing increases and consistent volume growth (top line growth).
In terms of the bottom line, I see even more growth potential given the productivity related improvements that were made over the past five years, which will soon start to have a positive impact on results.
#3 - Will R&D spending continue?
PEP's research and development (R&D) expense increased by 8% to $718 million in 2014. What's impressive is that Pepsi's new products made up 9.0% of its revenue in that year. PEP is placing more emphasis on healthier options, which requires innovation. PEP's nutritional products represented 20% of 2014 net revenue.
(Source: market realist)
I believe that expectations for continued growth are understood and mostly priced in, but, as outlined above, I do not think the market appreciates the potential for the North American Beverage unit, the benefits of productivity increases, and sales growth due to product innovation from R&D that will drive healthier options.
If you layer on top of this solid outlook the fact that the dividend per share has increased over 40% in the past five years while the cash payout ratio has gone down, I am very bullish on this stock for my dividend portfolio.
Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in PEP over the next 72 hours.
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.