DRIP PORTFOLIO
Profits Pop at Pepsi

Pepsi reported third-quarter earnings per share growth of 17%, as all of its business divisions (Frito-Lay, Pepsi-Cola, and Tropicana and juices) achieved double-digit growth in operating profits. Even while competitor Coca-Cola fumbles, Pepsi is running to new records. Will it keep sprinting? It depends on volume growth. Meanwhile, Drip Port may soon buy more shares.

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By Jeff Fischer (TMF Jeff)
October 11, 2000

Snack food and soda giant PepsiCo (NYSE: PEP) reported third-quarter 2000 earnings per share (EPS) of $0.40, an increase of 17% from $0.34 last year on an apples-to-apples basis.

Pepsi's third-quarter revenue rose 7% to $4.9 billion, spurred by 5% volume growth and 8% sales growth in its massive Frito-Lay division, and a 9% surge in Tropicana volume. In its carbonated beverage business, Pepsi-Cola International grew case sales 5% to achieve record third-quarter volume, and Pepsi-Cola North America case sales rose 1%.

So What?
Beneath the sales and earnings-per-share numbers, we see that operating profits rose a healthy 12% to $826 million, and every division in the company generated double-digit growth on this measure. This speaks highly of the company's improved efficiency.

Pepsi's 7% sales growth was fair, although we prefer to see double-digit sales growth -- even if that's a great deal to consistently ask of a company that's this size and in the beverage and snack business. Revenue jumped 9% in the previous quarter, while earnings per share soared 24%.

This quarter, the 7% sales increase and 17% EPS jump, with 12% operating profit growth sandwiched in, suggests that much of Pepsi's earnings-per-share gain is due to various internal "levers" being pulled by management: product-related cost-cutting, lower marketing and ingredient costs, and a share count reduction (as well as a tax rate of 32% this year, compared to 35.5% last year).

The company's diluted number of shares outstanding fell nearly 1% this quarter from the same quarter one year ago, and has fallen 1.9% in the past six months compared to the pervious year's same six months. This, along with the other factors, helped management turn 7% sales growth into 17% EPS growth.

This is all fine and good, but these methods do not represent the most-sustainable way to continue growing the business. Volume growth does. So, although these "external" initiatives are also very important (obviously!), volume and case growth is what investors should watch most closely.

Now What?
Frito-Lay is a profit-margin monster, and is clearly Pepsi's most attractive business. Frito-Lay's volume growth is healthy in this country and internationally, and this growth should continue at or near current paces. Competition and price wars are not in effect here the way that they are in carbonated beverages.

Pepsi-Cola North America's 1% gain in case growth is not surprising. The soda business remains slow on this continent for Pepsi and Coca-Cola (NYSE: KO). Reason contends that the next few years will see steady improvement, as the companies have easier numbers to compare to year-over-year.

Pepsi-Cola International saw healthy case sales growth of 5% (achieving record third-quarter numbers). Pepsi has foundations and initiatives in place in the Middle East, China, India, Egypt, Mexico, Australia, and Russia that should help it maintain and expand this rebound.

Finally, Tropicana rocked yet again. Operating income rose 25% to $46 million due to higher volume that improved manufacturing efficiency, and due to lower ingredient costs. Tropicana and juices accounted for $546 million, or 11%, of the quarter's sales. We're holding our breath to see how long this growth can continue.

Overall, Pepsi's four divisions are cash-flow monsters that each grew operating profits by double digits. That's impressive! Freed of its restaurant business for a few years now, Pepsi is on a roll. The company has achieved four consecutive quarters of double-digit EPS growth, even while Coca-Cola has suffered lower earnings. Pepsi's stock, near its high of $48 per share, trades at 29 times fiscal year 2001 earnings estimates.

The company expects long-term annual EPS growth of 12% to 13%.

Drip Port and PepsiCo
We bought our first shares of Pepsi at $45 per share plus a $15 commission this summer, and the stock certificate was recently delivered. So, now we'll enroll in Pepsi's commission-free Drip plan. We'll buy shares of Pepsi regularly over the years, especially on price dips. The stock has done very well the past 12 months, and we're keeping that in mind. In other words, as usual, we'll take our time buying more, unlike the mistake that we made with Campbell Soup (NYSE: CPB).

To discuss investing in Pepsi for free (do you have questions about how?), visit the Drip companies board. And Fool on!

Drip Portfolio


10/11/00 as of ~5:30:00 PM EDT

Ticker Company Price
Change
Daily Price
% Change
Price
CPBCAMPBELL SOUP(0.06)(0.24%)26.44
INTCINTEL CORP(2.19)(5.82%)35.38
JNJJOHNSON & JOHNSON1.381.45%96.00
MELMELLON FINANCIAL CORP(1.19)(2.69%)42.94
PEPPEPSICO INC(0.56)(1.19%)46.81

  Day Week Month Year
To Date
Since
7/28/1997
Annualized
Drip(2.38%)(5.04%)(4.82%)5.87%37.54%10.44%
S&P 500(1.54%)(3.15%)(5.01%)(7.12%)45.36%12.36%
S&P 500 (DA)(1.51%)(3.10%)(4.92%)(7.01%)47.98%12.99%
NASDAQ(2.22%)(5.73%)(13.73%)(22.14%)101.87%24.47%

Trade Date # Shares Ticker Cost/Share Price Total % Gain
9/8/9745.9786INTC22.8535.3855.18%
10/7/9837.3159MEL34.7742.9424.96%
11/14/9715.694JNJ79.6996.0021.75%
7/28/005PEP48.0046.81(2.47%)
4/13/988.403CPB53.9826.44(49.47%)

Trade Date # Shares Ticker Total Cost Current Value Total $ Gain
9/8/9745.9786INTC1,050.421,626.49579.67
10/7/9837.3159MEL1,297.431,602.25323.90
11/14/9715.694JNJ1,250.711,506.62271.98
7/28/005PEP240.00234.06(5.94)
4/13/988.403CPB453.61222.15(224.39)
 
Cash: 
Total: 
Unchg.
5,191.59
 


Key
• S&P 500 (DA) = dividend adjusted. Dividends have been added to the total return of the index.

Note
Drip Port launched with $500 on July 28, 1997, adds $100 to invest every month, and the goal is to own $150,000 in stock by August of the year 2017. Due to the slow nature of dollar-cost-averaging and our relatively significant starting costs, we do not expect to seriously challenge the S&P 500 for the first three to five years as we build an investment base. The long-term advantages of dollar-cost-averaging still overcome the short-term disadvantages, however. Final note: our investment in Campbell Soup is frozen due to fees instituted in its investment plan. Click here for a history of all Drip Port transactions.