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Using the Value Line Page: Coca-Cola, a Foreign Beverage Giant October 29, 2010
Coca-Cola (KO – Free Analyst Report) traces its origins back to the late 1880s when, as the story goes, Stith Pemberton started mixing up elixirs in a brass kettle in his backyard. Coca Cola was the one that he started to sell, with extracts from the coca leaf and the kola nut. The company has grown enormously since that time and is now a global beverage powerhouse. (A more in-depth review of the company’s history can be found here. A free copy of the latest Coca-Cola report, for use with this article, can be found here.)
In its present form, Coca-Cola is the world's largest beverage company. It distributes major brands including Coca-Cola, diet Coke, Sprite, Barq's (root beer), Mr. Pibb, Fanta, Fresca, Dasani, Evian, Full Throttle, Powerade, and Minute Maid. Although bottlers are an important part of the company’s worldwide distribution network, it only recently acquired key bottling assets from global distribution partner Coca-Cola Enterprises (CCE).
As the Analyst Comment notes, under the deal, Coke took ownership of a bottling and direct-store distribution network that spans 46 U.S. states and Canada. In return, it ceded its 34% equity stake in CCE (valued at approximately $3.4 billion) and assumed nearly $9 billion of that company's debt load. Concurrently, CCE also bought Coke's bottling operations in Norway and Sweden for $822 million, and has secured the right to acquire a majority interest in Coke's German bottler. The deal is expected to yield approximately $350 million in annual cost savings and revenue synergies by 2014.
The result is a company divided into two parts. One is a largely integrated domestic business that focuses on both the creation and distribution of products. The other is an international business structured more like the Coca-Cola Company was at the time of its founding in the United States, with Coke focusing on creating products and bottlers focusing on the distribution of those products. This is an interesting approach, as it gives bottlers and distributors more entrepreneurial freedom to push growth than they might otherwise have if they were more closely tied to Coke.
This is important because, as the Business Description points out, business outside North America accounted for 74% of net sales in 2009. That isn’t a typo—nearly three quarters of the company’s business is generated from foreign markets. This is why Coca-Cola is a U.S. company only in a historical context. To be fair, most large companies are what would be considered multinationals, since operations routinely span the globe today. However, the fact that Coke’s foreign sales dwarf its domestic business is something that should change the way in which investors perceive the company. This is likely for the better, too, as much of the expected economic growth in the world is expected to come from developing nations—not the United States.
In fact, the Analyst Comment highlights China and India as two locales that have particularly good growth potential. Those two countries average just 20 or so servings per person per year. That is in contrast to Mexico where consumption is around 660 servings per person per year. Even if average consumption in China and India only gets up to 200 servings per year, that’s a ten-fold increase from current levels. Add to that the massive numbers of people in those countries alone and the benefits of Coca-Cola’s foreign focus become quite clear.
So, is this “foreign” beverage company worth owning? Directors and Officers, as a group, own 5.4% of the company’s common stock—which is a very large stake for a company as massive as Coke. Note, too, that Berkshire Hathaway owns just under 9% of the company’s shares, which is a pretty solid endorsement. (Both of these stakes are reported in the Business Description.) So, clearly, there are proponents of the stock. And there is a lot to like.
The company’s capital structure, as noted in the Capital Structure box on the left side of the Value Line report, is comprised of just 15% debt, even after the assumption of $9 billion in debt from the acquisition of the U.S. bottlers noted above. Interest charges are covered an impressive 15 times over. Moving down to the Current Position box reveals that Coke has over $13 billion dollars of cash on its balance sheet and a current ratio of nearly 1.4, suggesting that, in a worst case scenario, it could easily pay its current bills with assets it has readily available. (The current ratio is calculated by dividing a company’s current liabilities by its current assets.)
These solid numbers, coupled with an impressive history of earnings stability and corporate growth, underpin the company’s top notch Safety rank of 1 (Highest), which can be found in the Ranks box at the top left of every Value Line report. Note, too, that the company’s beta, a measure of volatility relative to the market as a whole, is just 0.60, meaning that Coke shares move just 6% for every 10% move in the market. While this can be a drag in an up market, it provides a great deal of comfort in down markets. Indeed, as the yearly high and low prices above the Graph illustrate, Coke’s shares fell from a high around $65 to a low of about $37 during the recession that ended in mid-2009. That 40% drop actually pales in comparison to the fall some other companies in the beverage space experienced, such as Cott (COT), which fell more than 90% in price and Dr. Pepper Snapple Group (DPS), which fell nearly 60%.
Another factor supporting the company is its long history of dividend increases, which, as the historical portion of the Statistical Array shows, has increased every year presented. Earnings, despite a few dips, have been on a steady upward trend, as well. As the Annual Rates box shows, based on Value Line’s projections, the next three to five years should be roughly similar to the trailing five- and ten-year periods with regard to both dividend and earnings growth rates.
As for valuation, the company is trading at a slight premium to the market, as its Relative P/E of 1.11 shows (found in the Top Label section across the top of each report). However, as the historical portion of the Statistical Array attests, this valuation is toward the low end of Coke’s range. Meanwhile, the dividend yield of 3.0% is toward the high end of the company’s historical range. These factors suggest a company that may well be undervalued on a historical basis.
Although the Timeliness rank, found in the Ranks box, suggests that Coke’s shares will mirror the market over the next six to twelve months (3, Average), longer term total return potential, based on Value Line’s earnings and dividend projections, is between 15% and 20% on an annualized basis over the next three to five years (this range can be found in the Projections box to the left of the Graph). For a company as conservatively structured as Coke, this is an impressive return profile. Add in the exposure to foreign markets, and it seems that Coke is a solid option, particularly for conservative investors seeking a greater foreign presence.
At the time of this article's writing, the author did not have positions in any of the companies mentioned.