Last week, the Drip Port welcomed Jeff Fischer (TMF Jeff) back from his leave of absence. Contrary to rumors, he did not run off and join the circus. He tried to, but was turned away. He did accomplish a few other things instead, however, including getting married and working on his second novel.
In case you didn't know, Jeff co-founded this portfolio using his own money. We're thrilled to have him back, and he'll be writing in this space again on a regular basis.
For his first column back, Jeff evaluated all five Drip holdings, and listed his desired prices for each of them. As I read through his column and looked at these prices, I wondered how attractive they are compared to their competitors. Most of these have a well-known direct competitor. (Mellon Financial (NYSE: MEL) doesn't.) Though we don't have the space to get into a detailed analysis here, it shouldn't be too hard to compare some valuation metrics and see how our companies stack up.
"No Coke. Pepsi!" So said the late John Belushi on Saturday Night Live's legendary Olympia Cafe skit, and so says the Drip Port. Pepsi (NYSE: PEP) and Coca-Cola (NYSE: KO) have battled each other over several generations, and this chart shows how close the stocks have tracked during the past 33 years.
Last week, Jeff explained that Pepsi's price-to-free cash flow ratio (P/FCF) stands at about 20 right now, meaning the stock price of $43 is 20 times greater than trailing-12-month free cash flow per share. It also has an FCF yield of about 4%, meaning that for the $43 you pay for one share, the company earns about 4% of that in free cash flow each year.
On a price-to-earnings (P/E) basis, Pepsi is trading at 22 times the current year's earnings estimate, and 19 times the 2003 estimate.
As you can see below, Pepsi is more attractive than Coke by each of these measures:
Price/ FCF Current 2003 Growth FCF Yield P/E P/E Rate ---- ----- ----- ---- ---- Pepsi 20 4.0% 22 19 12% Coca-Cola 31 3.2% 26 23 10%
Considering Pepsi's earnings are expected to grow by about 12% next year compared to Coke's 10%, we'll happily keep mailing checks to purchase it whenever the price suits us. In fact, Jeff has stated that he'll be buying more by the end of the month.
It's not quite as easy to pick a direct competitor to our Johnson & Johnson (NYSE: JNJ) holding, but Pfizer (NYSE: PFE) comes close enough. Both have a strong pharmaceutical segment, and both manufacture health-related products for consumers. In addition, J&J sells various medical devices to the professional market. Finally, each company is expected to grow earnings by a healthy 16% or so in 2003.
These two are very, very close in valuation:
Price/ FCF Current 2003 Growth FCF Yield P/E P/E Rate ---- ----- ---- ---- ---- J&J 25 4.0% 24 21 16% Pfizer 28 3.8% 20 17 16%
If you work for a business of any appreciable size, it's likely either Paychex (Nasdaq: PAYX) or Automatic Data Processing (NYSE: ADP) help to cut your check. Both offer payroll and human resource services, and ADP also helps brokerages with securities transaction processing.
A comparison of these two shows that Paychex is certainly not cheap at this point in time:
Price/ FCF Current 2003 Growth FCF Yield P/E P/E Rate ---- ---- ---- ---- ---- Paychex 39 2.5% 25 30* 18% ADP 23 4.8% 22 20 10%
True, Paychex is growing at a much faster rate. But as Jeff said last week, he's content to wait until the price becomes more attractive before he buys any more.
No question about it, these two companies are bitter rivals. For years Intel (Nasdaq: INTC) seemed to be one step ahead of Advanced Micro Devices (NYSE: AMD), but times have changed. Both stocks have performed similarly over the past one-, three-, and five-year periods, and both companies' processors are similar in speed and quality. Intel is still dominant as far as market share goes, however, controlling about 83% of the sector compared to AMD's 16%.
It's not easy to compare the two with our valuation metrics, because AMD is not currently profitable and is not expected to be back in the black in 2003. Its metrics are not meaningful (NM) at this time:
Price/ FCF Current 2003
FCF Yield P/E P/E ---- ----- ---- ---- Intel 30 3.3% 40 32
AMD NM NM NM NM
As you can see, Intel is nowhere near cheap, and some of our analysts think it's downright overvalued. It's hard to be confident in its growth rate. Last week, Matt Richey (TMF Matt) explained why the company's pricing power has been hurt, and pegged fair value for the stock at about $12. Jeff would like to see it around $14. Either way would be a far piece down from its current price of $18.
Both companies are fighting a sluggish PC market, and AMD has a lot of work ahead of it before it returns to profitability.
So there you have it, an extremely simplified -- but hopefully useful -- comparison of some of our holdings and their competitors. Over the long course of your Drip investing career (we have a 15-year time frame, for example), your companies' fortunes will ebb and flow. They'll not always be top dog in their sector, and their prices will not always seem attractive to you.
But for the money you've dedicated to Dripping, it's not hard to set up a system like we use here. Gradually build up your holdings to five or six or however many companies you can confidently follow. Track their valuation metrics over time. Know when some are presenting you with relatively good values compared to their past history. If their business prospects haven't changed, those are the ones that deserve your money when it comes time to mail the check.
Rex Moore feels your pain, and asks you to please stop doing that. At time of publication, he owned no companies mentioned in this column. You can review his holdings, as well as the Fool's disclosure policy, on that Internet thingie.