Six Considerations
Income investors are no stranger to the two biggest soda giants in the world, PepsiCo,Inc. (NYSE:PEP) and The Coca-Cola Company (NYSE:KO). But if you were to invest in just one of the two, which one would you choose?
The answer is not quite straightforward. Both Pepsi and Coke have been around for more than a century. They both have some of the most recognized brands in the world. And over the years, both companies have returned value to shareholders generously.
Let’s see how these two companies stack up against one another in six categories that are important to income investing.
1. Dividend History
Both companies are dividend aristocrats, meaning they have increased their payout for at least 25 years in a row. Pepsi stock has increased its dividends for 44 consecutive years. The latest dividend hike was in May 2016, when PepsiCo declared a quarterly cash dividend of $0.7525 per share, representing a 7.1% increase from the prior year. (Source: “PepsiCo Declares Quarterly Dividend,” PepsiCo, Inc., May 3, 2016.)
KO stock’s dividend track record was even more impressive. The Coca-Cola Company has paid a quarterly dividend since 1920 and has increased its payout in each of the last 54 years. Winner: KO stock.
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2. Dividend Yield
Dividend yield moves inversely to a company’s stock price. Both PepsiCo and Coca-Cola enjoyed sizable increases in their share prices over the years, but their dividend yields still look attractive in today’s environment. PEP stock has an annual dividend yield of 2.87%, while KO stock is yielding a more impressive 3.32%. Winner: KO stock.
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3. Dividend Safety
Income investors shouldn’t stop at just the current yield. Instead, we should think long-term. Business goes in cycles; what if the next recession hits? Fortunately, both Pepsi and Coke are consumer staples companies. The demand for their products is relatively more inelastic than the demand for, say, consumer discretionary companies.
Still, let’s take a look at how much earnings each soda giant is paying out as dividends. Right now, PepsiCo stock has a payout ratio of 80.79%, while the ratio is 78.16% for Coke stock. Winner: KO stock.
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4. Dividend Growth
Both companies have solid track records when it comes to raising their payout to income investors. Over the past 10 years, KO stock has raised its quarterly dividend rate at a compound annual growth rate (CAGR) of 8.5%, which is pretty solid. However, Pepsi stock has raised its payout at a CAGR of 9.6% over the same period. Winner: PEP stock.
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5. Earnings Growth
One way for a company to grow its dividends is to increase its payout ratio. But there is a limit to that. In order for these soda giants to raise their payout to income investors, they need to grow their earnings.
On average, analysts expect PepsiCo to deliver earnings of $4.76 per share for the current calendar year, representing a 4.2% increase year-over-year. For 2017, PepsiCo’s earnings per share (EPS) is expected to grow another 8.4% to $5.16. (Source: “PEP Analyst Estimates,” Yahoo! Finance, last accessed September 16, 2016.)
For KO stock, things don’t look so rosy. Analysts are expecting a 4.5% decline in earnings per share to $1.91 for the current calendar year. However, Coca-Cola’s next-year earnings are projected to bounce back 5.2% to $2.01 per share. Winner: PEP Stock.
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6. Valuation
Due to the better outlook at PepsiCo, investors are willing to pay a premium for Pepsi stock. Trading on $105.14 on Friday, PEP stock has a price to earnings multiple of 29.71x. Coca-Cola stock, on the other hand, has a price-earnings (P/E) ratio of 24.18x. Winner: KO stock.
The Verdict
While Coca-Cola has won four out of the six categories in this comparison, Pepsi stock may still serve better as an income investment. The reason is that Pepsi seems to be better positioned as consumers embrace the health and wellness trend. PepsiCo’s portfolio of brands such as “Aquafina,” “Dole,” “Quaker,” and “Triopicana” have plenty of growth potential, even if consumers move away from “Lays” and “Cheetos.” Its recent efforts in building a lineup of “guilt-free products” and “everyday nutrition products” could further solidify its position in the food and beverage industry.
These initiatives could drive growth in PepsiCo’s top and bottom lines in the long run. That’s why many income investor are willing to pay a premium for PEP stock.