Having a diversified investment portfolio is key to minimizing risk; however, that doesn't mean you should compromise on quality.
You want your collection of stocks to feature the most outstanding businesses you can find. A great test I like is asking yourself this hypothetical question: would you feel comfortable owning that stock and only that stock?
The Coca-Cola Company (KO 1.50%) is one of my examples. It's a Warren Buffett favorite and a stock that checks three crucial boxes. Here is why you can't go wrong holding it for the long haul.
1. Multiple ways to grow
Named after its flagship brand, Coca-Cola is an immense conglomerate that owns hundreds of beverage brands it sells worldwide. Its products span sodas, juices, waters, teas, coffee, and more. It's big business and does more than $40 billion in annual revenue.
Thriving as both a business and investment requires consistent growth over the long term, and you can see below how steady revenue has increased. It franchised its bottling operations in the 2010s, which dropped revenue, but it's beginning to head up again. Management expects to grow sales by mid-single digits each year over the long term.
KO Revenue (TTM) data by YCharts
The different ways Coca-Cola can achieve this growth make it a special company. The company doesn't need to move Heaven and Earth to muster up a few points of revenue growth.
First, Coca-Cola has one of the most robust distribution networks anywhere; its many popular brands command attention from consumers and receive preferential treatment at points of sale, whether in stores, restaurants, or vending machines. Coca-Cola can use its heavy influence to grow new products or keep competitors at bay.
Second, the company can raise the prices of its products. According to data from the Federal Reserve Bank of St. Louis, the average price of a two-liter (half-gallon) bottle of soda was $1.44 in April 2018 and is $1.95 today. Coca-Cola owns roughly 44% of the U.S. market, so its pricing strategy generally moves the needle for the industry. This doesn't consider different packaging options, like smaller serving sizes that cost more per ounce. There are multiple ways to sneak in price increases.
Lastly, Coca-Cola operates in a nearly endless industry and can acquire new assets as it desires. For example, Coca-Cola broke into the hot beverage market by acquiring Costa for $5.1 billion in 2018, a popular coffee brand in international markets with more than 4,000 retail stores.
All of these useful buttons to press, and meanwhile Coca-Cola's customer base also grows as the population expands about 1% each year.
2. Financials you can count on
Consistent revenue growth is essential, but you also need a profitable business model for it to translate to investment returns. Coca-Cola has been a "cash cow" for decades, spitting out billions in free cash flow each year.
You can see below that the company generally squeezes $0.29 of cash from each revenue dollar, a very high percentage. Typically, converting 10% of revenue to free cash flow is solid.
KO Free Cash Flow data by YCharts
Coca-Cola does have $41 billion in long-term debt; it's not ideal, but the company's leverage ratio of 2.6 debt-to-earnings before interest, taxes, depreciation, and amortization (EBITDA) is manageable, and the company does have $10 billion in cash.
Running the business doesn't require much money, leaving plenty of cash for shareholders.
3. Generous to shareholders
Coca-Cola's ability to pay and raise its dividend is arguably the reason that it's one of Buffett's most significant holdings. The company's a Dividend King, increasing its payout for 60 consecutive years. Investors can earn a 2.8% yield based on the current share price.
KO Total Return Price data by YCharts
Dividend investing works best when given time; had you bought $10,000 worth of Coca-Cola stock on Jan. 1, 1980, you would have $868,000 today, a great investment. But if you had reinvested the dividends Coca-Cola paid you all those years, your same investment would now be worth $2 million!
Coca-Cola won't make you rich overnight, but it's a proven wealth-building machine that investors can rely on as long as people worldwide continue drinking the many products it owns. It seems likely that Coca-Cola's success will continue, which is why it's an excellent stock for any long-term investor.
