Does Coca-Cola Have the Potential to Be a Star Performer in Your Portfolio?

Beverage giant Coca-Cola is expanding across the globe and enjoying relative success in emerging markets. But does it have the potential to outperform the wider market in the future?

May 23, 2014 at 9:19AM

Shares in Coca-Cola (NYSE:KO) have had a rather lackluster start to 2014, with the world-famous beverage company's shares down a little under 1% since the start of the year. This doesn't compare favorably to the S&P 500, which is up 1% in 2014, although Coca-Cola has shown strength in recent weeks, making gains from a 2014 low of $37.10 to hit the current price of $40.85. With shares in Coca-Cola trading in the middle of their 52-week range of $36.83-$43.43, is now a good time to buy? 

How did Coca-Cola's quarterly results shape up?
In its most recent quarterly update released on April 15, Coca Cola reported encouraging results. On the plus side, Coca-Cola delivered global unit case volume growth of 2%, with Coca-Cola international increasing volume by 2%. These are encouraging figures and show that the business continues to provide growth opportunities, with there being particular opportunity in countries such as China and Brazil, where volumes grew by 12% and 4% respectively. Furthermore, India and Russia saw volumes increase by 6% apiece, as Coca-Cola continues to seek growth opportunities from developing as opposed to developed markets.

While on the topic of developed markets, Coca-Cola struggled in Europe and North America, with unit case volume down 4% in Europe and flat in North America. This highlights the 'two-tier' growth rate that Coca-Cola is currently experiencing between developed and developing markets – a trend that could continue in future.

Despite global case volumes growing by 2%, Coca-Cola reported a net revenue decline of 4% in the quarter, although when the impact of negative currency movements and structural changes (mostly the deconsolidation of various company-owned bottling operations during 2013) is excluded Coca-Cola's net revenue growth was 2%. A similar story is present with regard to earnings per share (EPS), with it falling by 6% on a reported basis, although when adjusted for the aforementioned structural changes and currency, EPS increased by 5%.

As ever, Coca-Cola continues to invest heavily in its brands, with 2014 seeing an incremental investment of $400 million in media initiatives across the globe. With strong cash flow (cash from operations was $1.1 billion in the first quarter), Coca-Cola has the financial flexibility to invest now for higher growth later, with the company making continued strong progress in developing markets as a result of this initiative.

Let's take a look at two of Coca-Cola's peers
Dr Pepper Snapple (NYSE:DPS) also reported an encouraging first quarter (released on April 23 2014), with net sales increasing by 1% due a favorable product and package mix, as well as pricing improvements. As with Coca-Cola, currency impacts were negative, with 1% needing to be added to the net sales figure so as to neutralize the impact of foreign exchange. Furthermore, just as Coca-Cola's numbers were hit by structural changes, Dr Pepper Snapple experienced an unfavorable year-on-year LIFO (last in first out inventory accounting, where the cost of sales utilizes the most recent stock purchases), although the difference between reported and adjusted EPS numbers was only $0.04 (around 5%), with both showing a considerable improvement on the first quarter of 2013. For instance, adjusted EPS increased from $0.53 to $0.74 – a gain of 40%.

Meanwhile,  PepsiCo (NYSE:PEP) was also hit by negative currency impacts and structural changes (mainly restructuring costs) in its first quarter results (released 17 April 2014). Despite this, reported revenue was flat for the first quarter of the year and, when these costs are excluded, PepsiCo was able to deliver organic growth in revenue of 4%. This is a highly impressive figure and highlights the strength of the company's brands, with PepsiCo also announcing that it is on-track to deliver around $1 billion in annual productivity savings in 2014. When put together, the bottom-line continues to show strength, with core constant currency EPS increasing by 10% when compared to the first quarter of 2013.

Could Coca-Cola be a star performer?
All three companies delivered relatively strong first quarter updates and have significant potential. Through harnessing efficiency savings and incremental marketing spend for example, they appear to have bright futures. However, going back to the original question posed by this article ('does Coca-Cola have the potential to be a star performer'?), the first quarter results appear to show that it does.

In addition to having the potential to increase sales further in developing markets (where much of the company's incremental media spend will be centered) and having currency neutral comparable EPS gains of 5%, Coca-Cola appears to be performing well. Allied to this is a forward price to earnings (P/E) ratio of 18.2 which, although higher than the S&P 500's forward P/E of 15.8, in my view deserves to be higher as a result of the strength of Coca-Cola's potential and its current performance. As a result, Coca-Cola appears to be well-placed to become a star performer for investors.

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Robert Stephens has no position in any stocks mentioned. The Motley Fool recommends Coca-Cola and PepsiCo. The Motley Fool owns shares of PepsiCo and has the following options: long January 2016 $37 calls on Coca-Cola and short January 2016 $37 puts on Coca-Cola. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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