Who’s Leading in the Soda Wars?

soda-stockIt’s been a tale of two companies over the last year. Shares of PepsiCo (NYSE: PEP) are up 25% while Coca-Cola (NYSE: KO) is up just 13%. 

PepsiCo continues to outperform Coca-Cola for good reason. And I think this type of outperformance by is likely to continue. Already this year, PepsiCo is putting even more distance between itself and Coca-Cola. 

The two behemoth beverage companies released earnings reports this week and both beat expectations for sales and earnings. And each saw a modest 1% growth in beverage volume for the fourth quarter, on a year-over-year basis.  

Coca-Cola, which released earnings on Tuesday, noted that it’s seeing strong growth in the markets  of India and Brazil. But it’s also gaining more traction in non-carbonated beverages. The still beverage business, which includes sports drinks and tea, was a standout performer for Coca-Cola during the fourth quarter.  

As the consumer continues to turn away from soft drinks, especially in North America, look for Coca-Cola to make a bigger push toward still and sparkling beverages. In part, we are already seeing this; Coca-Cola has invested in both Keurig Green Mountain (NASDAQ: GMCR) and Monster Beverage (NASDAQ: MNST), owning 16% and 17% of the companies, respectively. 

However, snacks continue to be the big differentiator between PepsiCo and Coca-Cola. PepsiCo owns various snack food brands, including Lay’s, Doritos, Ruffles and Quaker.   

PepsiCo released earnings Wednesday. A key for PepsiCo was strong growth in developing countries, where the snack foods business remains a standout. 

While Coca-Cola is the undisputed market share leader among beverage companies for sodas in North America, PepsiCo‘s  North America snacks business is now almost as large as Coca-Cola’s North American beverage business. 

One advantage that Coca-Cola does enjoy is higher margins, thanks to its greater exposure to the higher margin beverage and bottling businesses. 

Yet, when you break it down, PepsiCo still looks like a more enticing investment. Let’s a take a quick look at the tale of the tape:

Notice that both companies are comparable from a market cap, debt, and dividend standpoint. But PepsiCo trades at a slight discount, despite having a superior return on invested capital — which takes into account the money a company makes based on the amount of debt and equity it has. 

Both Coca-Cola and PepsiCo are dividend aristocrats, having upped their annual dividend payments for 52 and 42 consecutive years, respectively. 

Recall that back in November we put PepsiCo on our list of top 5 dividend aristocrats to own for 2015. At the time, we highlighted the business model differences between the two. 

But we also noted that PepsiCo was expected to grow earnings at rate that’s double Coca-Cola’s over the next half decade. Well, that’s still true, and yet Pepsi still trades at a slight discount.

Going forward, a key opportunity for PepsiCo is to continue diffusing its snack foods into faster-growing markets (versus North America). Less than 30% of its sales are derived from the European, Asian and African markets.  

By 2018, PepsiCo plans to buy back up to $12 billion worth of stock — which is roughly 12.5% of its market cap. This year alone, it plans to return up to $9 billion to shareholders via dividends and buybacks. 

Also, look for low gas prices to be an underrated tailwind for PepsiCo over the next six months or so.  Cheaper gas boosts convenience store traffic — an atmosphere  in which PepsiCo products thrive.

In the end, PepsiCo is winning the soda wars, but not with soda. It’s doing it with snacks. I like this angle much more than the route Coca-Cola is going via partnerships with Monster, energy drinks have their own issues, and Green Mountain, where the convenience factor might be overestimated.

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