Investors reacted positively to Coca-Cola's (KO -0.73%) recently released first-quarter earnings report. The beverage giant showed resilience in a struggling, inflationary economy as revenue and net income increased.
However, its outlook appeared more downbeat, and the stock did not move significantly on the news. The question for investors now pertains to how they should react to Coca-Cola's results.
The Q1 report
During the quarter, Coca-Cola generated $11 billion in revenue, a 5% increase compared with the year-ago period. The cost of goods sold and operating expenses rose at a faster pace than revenue as inflation and currency headwinds weighed on the company.
It mitigated those effects by passing price increases on to the consumer. Although operating income fell by 1%, gains from investments led to net income rising 11% to $3.1 billion.
Nonetheless, forecasts point to conditions worsening. Coca-Cola expects only 2% to 3% net revenue growth for the year.
Also, that did not help the company's free cash flow, which came in at negative $116 million, a sharp reversal from the $406 million in positive free cash flow it reported in the first quarter of 2022. This is likely a temporary decline given it expects full-year free cash flow of around $9.5 billion.
The state of Coca-Cola
Admittedly, the report did not involve bombshells, nor should investors expect them. Coca-Cola owns over 200 beverage brands, led by its flagship drink, Coca-Cola. Moreover, since it operates in more than 200 countries, it also has a genuinely global footprint, a feat few companies have achieved. That speaks to its stability but also limits growth since it must buy or develop more brands to significantly increase its revenue.
Another double-edged sword for Coca-Cola is its dividend. Currently, it pays $1.84 per share annually. That amounts to a cash yield of 2.9% and an increase of 5% from last year's payout. The dividend has also been raised for 61 consecutive years, a factor that may explain why Warren Buffett's Berkshire Hathaway has owned shares since 1988.
Unfortunately, the dividend may have become one of its biggest problems. Dividend expenses will probably come in at approximately $8 billion this year, claiming most of the company's projected full-year cash flow. While it would likely not abandon its Dividend King status by cutting its payout, the dividend cost may limit the beverage titan's options.
KO PE Ratio data by YCharts
Additionally, the stock has become pricey. It trades at a P/E ratio of 29. That compares well to peers like PepsiCo and Keurig Dr Pepper but exceeds the S&P 500 average earnings multiple of 22. Even though Coca-Cola is a mainstay of Buffett's portfolio, the fact that Buffett has not added shares of this company since 1994 implies that its share price has moved ahead of its earnings growth.
Stand pat with Coca-Cola
Coca-Cola's business remains solidly positioned in its markets and will probably deliver increased dividend income to its long-term investors. However, the stock faces a near-term future of tepid growth. Additionally, it may need to consider options such as reducing dividend growth in the future to invest in its business. Considering those conditions and the high P/E ratio, investors should probably refrain from adding shares.
