Keep PepsiCo On Ice

By Ryan C. Fuhrmann | October 08, 2010 AAA

Food and beverage behemoth PepsiCo (NYSE:PEP) reported third quarter earnings that met analyst expectations, but the stock fell as management lowered the top of its earnings outlook range. This combined with uncertainty over the acquisition of certain bottling operations and a stock that is trading at its highs for the year means there is no hurry to become a shareholder.

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Third-Quarter Sales Review
Reported sales jumped 40% to $15.5 billion, largely as Pepsi folded in the acquisition of two of its erstwhile independent North American bottlers. The company owns an impressive array of beverage, food and snack food brands, including the namesake beverage, Gatorade, Tropicana, Quaker Oats, and Frito Lay. Additionally, its brands are sold throughout the world and mean broad product and geographic breadth.

Management highlighted double-digit beverage business growth in Europe and that snack volume increased a modest 2% during the quarter. On the downside, it pointed out that volumes fell 1% in the Quaker Oats North American segment and that it needs to still "revitalize" the North American beverage business, which is what the purchase of the Pepsi Bottling Group is intended to accomplish.

Quarterly Profit Recap
Reported operating profit increased 25% to $2.8 billion and net income grew 11% to $1.9 billion. As a result, operating income was 18% of sales and the net margin was 12.4%, a decline of a couple of percentage points given the acquired bottling operations are less profitable. Recurring free cash flow reached $5.3 billion, according to the companies calculations.

For the full year, analysts project sales will rise nearly 33% to more than $57 billion. Pepsi expects earnings growth between 11% and 12% from the $3.71 in recurring earnings it reported last year. Full-year free cash flow should reach $4.7 billion, or just under $3 per diluted share.

Bottom Line
Shares of Pepsi fell after the earnings report and reflected disappointment that it tightened its earnings expectations for the year. It remains to be seen if the folding in of the bottling operations will revitalize trends in the more mature beverage business segments and developed markets including the U.S. and Europe.

Archrival Coca Cola (NYSE:KO) chose to emulate Pepsi's strategy and just finalized the acquisition of Coca-Cola Enterprises' (NYSE:CCE) North American operations. Its international bottling operations, including Coca-Cola FEMSA (NYSE:KOF) and Coca-Cola Hellenic Bottling (NYSE:CCH) will remain independent.

Uncertainty over the success of integrating the bottlers and a forward P/E of nearly 16 imply that investors are best leaving Pepsi's stock on the shelf for the time being. The shares also recently reached a 52-week high and could be due for a breather. (For related reading, take a look at Parched For Profits? Try Beverage Stocks.)

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