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For years, PepsiCo (PEP, news, msgs) has wrangled with the gnarly problem of declining popularity of bubbly soft drinks. But its stock was never supposed to lose its fizz during economic hard times.
Instead, steady consumer demand for cheap and tasty salty snacks such as Lay's and Doritos chips, and drinks like Gatorade and Lipton tea, were supposed to produce predictable earnings, making PepsiCo a defensive stock.
Yet PepsiCo shares have gotten hammered recently, down 10% from a peak reached Jan. 10. And shares of bottler PepsiAmericas (PAS, news, msgs) are down even more, off 26% from a Dec. 13 peak through Friday. But I can't really see that anything has gone so terribly wrong at either company, so I think both stocks look like a buy in the current weakness.
PepsiCo got hit simply because "the January mantra seemed to be sell what could be sold," says Michael Barron of Knott Capital, which manages Quaker Capital Opportunities Fund (QUKTX). The fund is a long-term owner of the stock.
Investors, of course, had to have some reasons to pick on PepsiCo. They see rising commodity costs. They fear that the company may be losing its knack for inventing innovative tasty snacks and drinks that win over consumers.
But I'll make the case in a moment that nervous investors are probably exaggerating both fears, which wouldn't be a surprise in such uncertain times. Indeed, PepsiCo will most likely keep producing reliable earnings, winning over investors as economic conditions continue to soften, Barron says. And the company will get help from impressive growth in international markets.
'A visible earnings stream'
Barron thinks PepsiCo shares will advance this year as more bad news about the economy comes out, making the company look "very attractive" to other investors."PepsiCo is a stable company with a visible earnings stream and exposure to a variety of international markets," he says. "In this kind of market environment, those are qualities that are handsomely rewarded."
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PepsiCo CEO Indra Nooyi offered some historical perspective to make the same point in the company's most recent conference call. "All categories of comfort food and refreshing beverages have generally proved pretty resilient in past economic downturns," she said. "Our brands have highly loyal and engaged consumers. Our brands are affordable treats and healthy eats."
But enough talk. What about the numbers? They don't look so bad either. While many companies saw business decline in the fourth quarter, PepsiCo met expectations even after investing heavily abroad for growth. It posted a 17% gain in revenue and an 11% increase in operating profit as core brands came through. The company had double-digit growth in snacks and drinks in emerging markets.
PepsiCo has stuck with 2008 guidance of at least 10% earnings growth -- one reason that Credit Suisse analyst Carlos Laboy has a "buy" rating and an $87-a-share price target on the company's stock, which recently traded for $72.
PepsiCo bottler PepsiAmericas got hammered for a slightly different reason: Last year, the bottler turned into a momentum play, thanks to 26% earnings growth largely coming from international strength. So when the company guided down slightly in January, the mo-mo players exited, and the stock got hit hard. Too hard.
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Again, I think the weakness offers a good entry point for long-term investors, and at least one insider agrees. In early February, PepsiAmericas CEO Robert Pohlad bought more than $10 million worth of stock for around $25.50 a share, according to Thomson Financial, or just slightly below the recent price of $26.
Here's a closer look at both companies:
PepsiCo
One of the biggest investor concerns about PepsiCo is that costs of ingredients such as vegetable oil, grains and sugar are going up sharply. The company expects commodity costs overall to advance 6% this year.But investors may be overly concerned about the rising costs, for a couple of reasons:
- The company is revamping operations to reduce costs. And because many of its top managers come from management consulting backgrounds, they'll probably continue to find savings, points out Bear Stearns analyst Justin Hott. CEO Nooyi got her start with the Boston Consulting Group.
- The company is employing several strategies to keep costs down. These include straight-out price increases to subtle changes, including tweaking ingredient mixes and putting fewer chips in each bag. These tactics are legal, by the way, as long as the package accurately describes what is inside.
Continued: Jury's still out on new drinks
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