After reviewing all available data, we recommended BUY rating on PepsiCo, Inc. By applying full information forecast, PepsiCo, Inc as of December 31, 2007 was $110.99. The stock market price on the same date was $75.49. We believe PepsiCo stock is undervalued. Three evaluation methods are used in evaluation process – ReOI , AOIG, and DCF. We get same result on all three methods. Simple valuation method is also used, we reached a comparable result of $110.62.
KEY DRIVER’S FORECAST
WACC is forecasted at 7.32 using CAPM. In the last 5 years, PepsiCo maintained sales growth rate above 7.5% annually. We expect the growth rate will gradually reduce from 9.8% in 2008 to 4.5% after 2013. Asset turnover will be constant at 2.319. Core sales profit margin will remain 11%. After adjustment of one-time items, we estimate the effective tax rate to be 30.52%. We excluded unusual operating income factors from our analysis, and expected the aggregated value will zero out in long term. Other core operation income will increase of 3.5%.
Our evaluation is based on conservative forecast of future economic condition. If factors such as currency exchange rates, commodity prices, and business environment fluctuate, we should adjust our evaluation accordingly.
PepsiCo Inc. (NYSE: PEP), with revenues of more than $39 billion and over 185,000 employees, is a large conglomerate with interests in manufacturing, marketing and selling a wide variety of carbonated and non-carbonated beverages, as well as salty, sweet and grain-based snacks, and other foods. Besides the Pepsi-Cola brands (including Mountain Dew), the company owns the brands Quaker Oats, Gatorade, Frito-Lay, SoBe, Naked, and Tropicana1. 1.1 Divisions
The company consists of PepsiCo Americas Foods (PAF), PepsiCo Americas Beverages (PAB) and PepsiCo International (PI). Some of PepsiCo's brand names are more than 100-years-old, but the corporation is relatively young. PepsiCo was founded in 1965 through the merger of Pepsi-Cola and Frito-Lay. Tropicana was acquired in 1998 and PepsiCo merged with The Quaker Oats Company, including Gatorade, in 2001. As of 2007, international operations generate over 40% of PepsiCo’s revenue and continue to lead the overall growth of the company. 1.2 Major Customers
PepsiCo does not sell directly to the consumers. Its customers include authorized bottlers and independent distributors, including foodservice distributors, and retailers. Retail consolidation continues to increase the importance of major customers. In 2007, sales to Wal-Mart Stores, Inc. represented approximately 12% of the total net revenue. Its top five retail customers represented approximately 31% of 2007 North American net revenue.
1. from www.yahoo.com.
In Carbonated Soft Drinks (CSD) market, PepsiCo competes against global, regional, local and private label manufacturers, mainly the Coca-Cola Company. In US market, PepsiCo has a similar share of CSD consumption and a larger share of liquid refreshment beverages consumption, as compared to Coca-Cola. However, Coca-Cola has a significant CSD share advantage in many markets outside the U.S. In snack brands market, PepsiCo holds significant leadership positions in the snack industry worldwide. 1.4 Main Business Risk
The company is exposed to market risks from two major factors: commodity & energy price and foreign exchange rates & interest rates. Commodity price, such as sweetener and cooking oil price, will affect its gross margin and raw material cost. Energy price, such as gas price, will affect its shipping cost and increase its operating expense. With substantial amount of sales and operation outside the United States, PepsiCo is highly vulnerable to exchange rates fluctuation. Exchange rate gains or losses related to foreign currency transactions are recognized in revenue as incurred. A favorable exchange ratio will be translated to a...