On average, retail investors tend to dramatically underperform the broader market over the long run. This is because most investors lack the fundamental understanding that investing should be boring rather than exciting.
The path to investing success is paved by picking businesses that consistently grow and reward their shareholders -- and sticking with them. Few businesses fit these requirements better than the gargantuan snack-and-beverage maker PepsiCo (PEP -0.41%).
Let's dive into three reasons why the stock is a buy for dividend growth investors.
1. Well-known brands are fueling business growth
Few consumer staples companies are as embedded into the daily routines of consumers as PepsiCo. Its products are consumed over a billion times each day in more than 200 countries around the world. The Purchase, New York-based company's portfolio includes numerous billion-dollar brands, among them its eponymous soda, Gatorade sports drink, and Lay's potato chips.
PepsiCo's net revenue surged by 10.2% year over year to $17.8 billion in its fiscal first quarter, which ended March 25.
To pass along the impact of rising costs, the mega-cap company raised its prices by 16% year over year in Q1. Because its products are viewed as essentials by many consumers, demand for them is fairly inelastic, which explains why its organic volume fell by just 2% during the quarter despite those price hikes. Its 14.3% organic net revenue growth for the quarter was up marginally from its 13.7% growth rate in the year-ago period, which suggests its fundamentals are intact.
PepsiCo's worldwide presence exposed it to unfavorable foreign currency exchange rate shifts in Q1, when the U.S. dollar was unusually strong. Those currency headwinds cut 2.5% from its net revenue in the quarter. Finally, the divestiture of its Naked and Tropicana juice brands in March 2022 reduced its net sales by 2%.
PepsiCo's non-GAAP (core) diluted earnings per share (EPS) soared 16.3% year over year to $1.50 during fiscal Q1. But its cost of sales and selling, general and administrative expense categories rose at slower rates than its net revenue. This allowed PepsiCo to expand its non-GAAP net margin by 50 basis points year over year to 11.6%. That, along with a reduction in the company's diluted share count, explains how PepsiCo's core diluted EPS grew faster than its net revenue.
Analysts anticipate that organic growth and acquisitions will propel the company's core diluted EPS upward at an average annual rate of 7.4% over the next five years.
Image source: Getty Images.
2. Strong payout growth can persist
Compared to the S&P 500 index's 1.7% dividend yield, PepsiCo's 2.4% yield will likely look attractive to income investors. That's especially the case when considering that the Dividend King more than doubled its quarterly payouts in the past 10 years.
And with PepsiCo's payout ratio expected to be approximately 66% in 2023, it should be able to deliver similar dividend growth in the years ahead. A payout ratio in that range gives it plenty of cash flow with which to finance growth opportunities and reduce debt.
3. It has earned its premium valuation
Amid the market downturn, shares of PepsiCo have held up well. The stock has gained 9% in the past 12 months. But even with these outsized gains, PepsiCo looks to still be a buy for dividend growth investors.
The stock's forward price-to-earnings ratio of 24.1 is only modestly above the non-alcoholic beverage industry's average ratio of 22.8. Since PepsiCo's reputation as a dividend grower is nearly unmatched, this arguably justifies its premium valuation.
