How Did Coca-Cola Score on the Stalwarts Checklist?

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Dec 17, 2014
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Last week, I used the Phil Fisher checklist to determine whether or not Apple (AAPL, Financial) was a good company to invest in. The company scored a 3.6 out of 5. The checklist feature is a way to help you dig deeper than a company’s P/E, PEG, P/B ratios and dividend yield (or as I like to call them, the “Fantastic Four”) to help decide whether or not a certain stock is a good investment. And yes, I am aware that there are other factors that come into the equation when investing.

This week I decided to use the Peter Lynch Stalwarts checklist on Coca-Cola (KO, Financial). Unlike the Phil Fisher checklist, this one is more analytical and focuses more on the numbers and less on how the company’s work ethics and philosophies shape how the business is run.

So, let’s see how Coca-Cola scored according to the Lynch Stalwarts checklist.

1. Do I understand the business? Is it a simple business?

Coca-Cola is a beverage company that markets and licenses over 500 non-alcoholic beverage brands, mainly sparkling beverages, but also waters, juices, ready-to-drink teas and coffees, as well as energy and sports drinks.

So, the short answer would be yes. The business is easy to understand.

2. Does the company have a diversified customer base?

Coca-Cola sells its products in over 200 countries and has been selling its products since 1886, so I would say yes, the customer base is definitely diverse.

3. Does the company still have room to grow? Has the company duplicated its success in more than one city or town to prove that expansion will work?

Coca-Cola is an established brand. Although the company can introduce new flavors or continue to expand to other countries, there isn’t much room for any large growth to occur. As of right now, the company’s revenue has grown 7.96% over a 5-year period. By selling Coca-Cola products in over 200 countries, the company has proved expansion will work.

4. Does the company have a meaningful profit margin? (10% or higher)

Yes, Coca-Cola’s profit margin is currently at 17.65%. The highest was in 2010 in December, at 54.75%.

5.Does the company have a higher margin than competitors?

Pepsi’s (PEP, Financial) profit margin is currently at 11.66% and Dr Pepper Snapple Group (DPS, Financial) had a profit margin of 11.88%. Both are lower than Coca-Cola’s.

Coca-Cola also has a higher operating margin (22.64%) compared to its competitors. DPS is at 19.96% and PEP is 16.54.

Lastly, Coca-Cola’s operating margin is higher as well, at 61.34%, although DPS isn’t far behind at 58.43%. PEP’s is at 53.57%.

6. Does the company have a stable margin or even increasing margin?

Coca-Cola’s gross margin has been in a long-term decline of 1.5% per year and net margin, which is at 18.32%, has decreased from last quarter. Operating margin has been declining at an average rate of 4.3% per year over a 5-year span. Last quarter, operating margin was at 25.21%.

7. Is the growth speeding up? Is the earnings growth to date consistent?

Over the past 12 months, book value per share Book Value Per Share Growth Rate has been 4.90%.

Coca-Cola’s current stock price is $41.21 and book value is $7.46, so therefore, the P/B ratio is 5.40, which is close to the 2-year low of 4.9.

Over the next 5 years, analysts predict the company is expected to grow earnings at an average annual rate of 6.22%.

This year, analysts are predicting earnings will decrease by 1.07% from last year and expect it to grow 2.8% next year over this year’s forecast.

We gave Coca-Cola a predictability rating of 5 out of 5 stars. Overall, growth is stable but not speeding up. People are drinking less soft drinks, especially in North America, as being healthy has become a popular trend and is possibly contributing to the stagnant growth.

If you would like to see more of the company’s growth rates, click here.

8. How did the company’s business fared during previous recessions?

In 2010, it was reported in Great Britain the company actually broke an all time barrier. Not only did it report ÂŁ1 billion in sales, but it was also the first time the combined sales of all three coke brands have broken through the ÂŁ1 billion barrier.

In 2009 during the recession in the United States, the company’s profit fell 18% in the fourth-quarter. In order to adjust, the company launched “Open Happiness” global marketing campaign to focus its attention on making soft drinks appeal to the consumers that want to pay less.

9. How did the company’s stock price fared during the previous recessions?

Coca-Cola has been named the recession-proof stock.

During the recession, the stock remained undervalued, as indicated on the Lynch chart below.

03May20171230161493832616.png

The company’s stock price at the beginning of the recession in 2008 was $22.47. By 2010, it was $27.81.

10. Is the balance sheet strong?

When a company has more assets than liabilities, it means the company has a strong balance sheet. Coca-Cola’s liabilities were 56,882 and assets were 90,055, so yes, the balance sheet is strong.

11. Is the product that’s supposed to enrich the company a major part of the company’s business?

Approximately three-quarters of the company’s volume comes from soft drinks. Water, orange juice and other beverages account for the rest.

International volume grew by 1% while North American volume declined by 1%. This is mainly due to North America responding to the obesity issue.

“We recognize that we need to increase the scope and pace of changes as we continue to face a challenging macroeconomic environment, said Muhtar Kent, Chief Executive Officer.

International still beverage growth will drive Coca-Cola’s growth in the future. The company has 11 still brands that have produced over $1 billion in sales per year. Coca-Cola International has grown 8% over the last 12 months.

“We worry that bigger issues will continue to plague the company,” Vivien Azer, analyst for Cowen & Co. in New York said in a note. “Macro weakness in emerging markets, in particular Latin America, concerns over diets, and currency headwinds, to name a few.”

12. Is the company doing “diworsifications” that may reduce earnings in the future?

The company appears to have responded to the decline in carbonated beverage demand by expanding into other non-alcoholic beverages. Coca-Cola recently partnered with Keurig to offer branded sparkling and still beverages. There are also plans in progress to release a Keurig Honest Tea product to expand in hot beverages. And that’s not the only partnership this year. Coca-Cola has also recently partnered with Monster to offer energy drinks.

In my opinion, it doesn’t seem as though the problem has been solved. Yes, the company acknowledged the issue but did nothing to fix it. Instead, it decided to let the soft drink portion of the business continue to fizzle out and eventually flatten (I couldn’t help myself. I had to use carbonated beverage analogies here) and just reach its tentacles out in new directions, hoping to find success in other markets and also to cover all bases of non-alcoholic beverages. Coca-Cola now offers almost every single type of of non-alcoholic beverage imaginable, making it almost impossible for thirsty people to not grab a Coca-Cola product off the shelf to quench their thirst.

13. Is the stock selling at a P/E ratio at or near growth rate?

The P/E ratio is currently at 22.56

EV/EBIT is at 18.96

EV/EBITDA is 15.13

The growth rate for this year is currently 20.16 and is predicted to be at 19.59 next year.

Yes, P/E is close to growth rate.

14. P/E ratio, high or low, relative to historical value? The lower, the better

The highest P/E ratio was at 28.93 and the lowest was at 11.92. The median was 20.40. P/E ratio is currently on the higher end, but not too high, as it is closer to the median than the historical high.

15. P/E ratio relative to similar companies?

Pepsi’s P/E ratio is currently 20.90 and Dr Pepper’s is at 19.64. Coca-Cola’s P/E ratio in relation to its competitors is relatively higher.

16. The percentage of institutional ownership. The lower the better

The percentage of institutional ownership for Coca-Cola is currently at 66%. Compared to its competitors, it is the lowest, with Pepsi’s at 75% and Dr. Pepper’s at 97%.

17. Are insiders buying?

As of now, insider ownership is 1%. It plunged from 5% to 1% in 2008 and has not changed since then.

18. Company buying back shares?

The company’s buyback ratio is 1.10. The highest was 0.00, lowest was 1.50 and the median was 0.50. Warren Buffett (Trades, Portfolio), along with other investors, have said that Coca-Cola’s employee compensation plan was excessive. Now, fewer shares will be issued to employees and there will be more transparency with how the program works.

First off, the number of shares granted will not exceed 0.8% of total outstanding stock in 2015 and an average of 0.4%for the remainder of the plan. The total number of shares outstanding as of September 2014 is 4,445 mil. Coca-Cola is a company that repurchases shares on a regular basis.

19. Is the company’s long-term growth rate slowing down?

Coca-Cola’s CEO Muhtar Kent is aware of the company’s slow growth rate and has addressed it:

“Earlier this year, we announced five strategic priorities to restore momentum and reinvigorate long-term sustainable growth. While we have begun to see early signs of progress, we recognize that we need to increase the scope and pace of change as we continue to face a challenging macroeconomic environment. We are therefore taking actions to strengthen our long-term financial performance, including further aligning our organization and our incentive plans to drive revenue and profit growth, increasing our productivity target to $3 billion in annualized savings by 2019, streamlining and simplifying our organization, and proceeding with plans refranchising the majority of Company-owned North American bottling territories by the end of 2017.”

Overall, Coca-Cola scored a 3.4 out of 5.

If you are interested in rating Coca-Cola yourself using the Peter Lynch Stalwarts checklist, please click here and give it a try.

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