Snack Business Suited for Pandemic; Pepsi Fairly Valued

Heading into wide-moat PepsiCo’s PEP first-quarter earnings print, with its geographic mix somewhere in the middle of the spectrum relative to Coke and Keurig Dr Pepper, it was unclear how much of a bellwether these peers’ results would be. As such, we think investors were keenly focused on: 1) the resilience of the business in the quarter and 2) whether this performance was sustainable throughout the COVID-19 onslaught. Management commentary turned out to be mixed, with stellar results (top- and bottom-line beats relative to CapIQ consensus) juxtaposed with a retraction of full-year guidance and an expectation for a low-single-digit decline in second-quarter organic sales. As we update our near-term outlook, we do not plan to change our $140 fair value estimate and see shares as fairly valued.

Revenue came in at $13.9 billion, an increase of 7.7% (almost entirely organic) from the year-ago period, reflecting strength across developed and developing markets. As sheltering in place has become the order of the day in many of the firm’s territories, its snack portfolio (roughly 55% of sales) has been more immune to closures and cuts in discretionary spending. Different production processes and business models make snacks more profitable for Pepsi, which should bode well for margins in the current environment. However, any margin uplift should be offset by heightened costs for labor and logistics across the supply chain, which left margins roughly flat at 15.5% during the quarter.

As a sign of confidence in the business’ prospects even amid economic turbulence, management reiterated shareholder return plans, which entail $5.5 billion in dividends and $2 billion in share repurchases. Still, while we suspect a large portion of first-quarter buybacks ($573 million) were executed after the sharp sell-off in the stock, we look askance at the firm’s commitment to a fixed level of repurchases irrespective of valuation.

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