Coca-Cola is a well-known brand that everyone recognizes. The strong brand gives Coca-Cola a strong moat that shields it from competition. If you have read my previous posts, you would know that I prefer companies with a strong moat, and it is challenging to find a company with a more robust brand moat than Coca-Cola. Warren Buffett owns a significant stake in Coca-Cola, but does that imply you should also invest in Coca-Cola?
This is not a financial advice. I am not a financial advisor and I only do these post in order to do my own analysis and elaborate about my decisions, especially for my copiers and followers. If you consider investing in any of the ideas I present, you should do your own research or contact a professional financial advisor, as all investing comes with a risk of losing money. You are also more than welcome to copy me.
Since I have attended the workshop with Phil Town, I have decided to change the layout of my analyses a bit. I will do some more calculations and also briefly go through why the company has meaning to me. If you want to read more about how I evaluate a company, please go to "MY STRATEGY" on my website.
For full disclosure, I should start by mentioning that at the time of writing this analysis, I do not own any shares of Coca-Cola. If you would like to view the stocks in my portfolio or copy my portfolio, you can do so on eToro. Instructions on how to do so can be found here. I do not own any stocks in any of Coca-Cola's direct competitors either. Thus, I have no personal stake in Coca-Cola. If you want to purchase shares or fractional shares of Coca-Cola, you can do so through eToro. eToro is a highly user-friendly platform that allows you to get started on investing with as little as $100.
The Business
The Coca-Cola Company was founded in 1886 in Georgia, United States. The Coca-Cola Company is a total beverage company. Beverage products bearing the Coca-Cola trademarks have been sold in the United States since 1886 and are now available in over 200 countries and territories worldwide. Coca-Cola owns or licenses and markets numerous beverage brands, which are grouped into the following categories: Trademark Coca-Cola, sparkling flavors, water, sports, coffee, and tea, juice, value-added dairy, and plant-based beverages, as well as emerging beverages. Coca-Cola owns and markets several of the world's largest non-alcoholic sparkling soft drink brands, including Coca-Cola, Sprite, Fanta, Coca-Cola Zero Sugar, and Diet Coke/Coca-Cola Light. Coca-Cola sells its products to consumers worldwide through its network of independent bottling partners, distributors, wholesalers, and retailers, as well as its consolidated bottling and distribution operations. Beverages bearing trademarks owned by or licensed to Coca-Cola account for 2,2 billion of the estimated 64 billion servings of all beverages consumed worldwide every day. Coca-Cola makes most of its revenue in North America, which contributes 36% of the total revenue, followed by EMEA contributing 17%, Latin America contributing 12%, and Asia Pacific contributing 12%. The remainder of the revenue comes from Bottling Investments (company-owned bottling operations), which contributes 17% of the revenue, and global ventures (which focuses on globally scaling acquisitions and brands, such as Costa Limited, and Coca-Cola's investment in Monster Beverage Corp), contributing 6% of the revenue. Coca-Cola is one of the most valuable brands in the world (ranked 10th in 2023), and this strong brand is what gives Coca-Cola its moat.
Management
The CEO is James Quincey. He first joined Coca-Cola in 1996 and has held various positions until he became the CEO in 2016. He has a bachelor's degree in electronic engineering from the University of Liverpool. However, he quickly realized that while he could be a competent engineer, there would always be others around the world who were more skilled than him. As he aspired to be the best in his field, he decided to change his direction. He describes his leadership philosophy as very simple: "A leader has to lead." What he means by that is that he will need to make all the difficult decisions and stand by them. Since becoming the CEO, he has transformed Coca-Cola from a soft drink company into a diversified beverage company through acquisitions and innovations. Since assuming the role of CEO, James Quincey has made significant efforts to enhance sustainability within the company. He aims to collect and recycle all packaging and incorporate at least 50% recycled content in its bottles by 2030. Personally, I believe that the company's shift towards becoming a total beverage company and its dedication to sustainability are wise decisions. I would feel confident investing in a company led by a CEO like James Quincey.
The Numbers
The first number we will investigate is the return on invested capital, also known as ROIC. We want to see a 10-year history, with all figures exceeding 10% for each year. The numbers are certainly encouraging as Coca-Cola delivers a Return on Invested Capital (ROIC) of nearly 10% or more every year, except for 2017. The reason ROIC was down in 2017 was that Coca-Cola began to refranchise its bottling operations. More details about this will be provided later in the analysis. Coca-Cola reached its highest ROIC just before the pandemic. Although they have not reached that level again, it is encouraging that the ROIC in the past three years has been higher than any other year except for 2019. Additionally, the ROIC in 2023 is the second highest in the past decade.
The following numbers represent the book value + dividend. In my previous format, this was referred to as the equity growth rate. It was the most important of the four growth rates I used in my analyses, which is why I will continue to use it in the future. As you are accustomed to seeing numbers in percentage form, I have decided to provide both the actual numbers and the year-over-year percentage growth. The numbers are a bit volatile as they have decreased every year until 2017, when Coca-Cola delivered its lowest figures in the past decade. However, it is encouraging that Coca-Cola has managed to grow its equity every year since 2018, and hopefully, this trend will continue. Thus, I believe that the numbers are encouraging overall despite a decline in equity over the first four years and the fact that Coca-Cola's equity in 2023 is lower than it was in 2014.
Finally, we will analyze the free cash flow. Free cash flow, in short, refers to the cash that a company generates after covering its operating expenses and capital expenditures. I use levered free cash flow margin because I believe that margins offer a better understanding of the numbers. Free cash flow yield refers to the amount of free cash flow per share that a company is expected to generate in relation to its market value per share. It is not surprising that Coca-Cola has generated a positive free cash flow every year in the past decade. I find it encouraging that Coca-Cola has delivered its highest free cash flow in the past five years. Although 2023 didn't reach the same heights as in 2021, it is the second-highest free cash flow in the past decade, which is another positive sign. Levered free cash flow margin has also been at its highest in the past five years. However, it is slightly concerning that Coca-Cola delivered its lowest levered free cash flow margin in five years in 2023, and I would like to see it increase in the future. Free cash flow yield is about average for the past decade, indicating that the shares are neither cheap nor expensive. However, we will revisit this point later in the analysis.
Debt
Another important aspect to consider is the level of debt. It is crucial to determine whether a business has manageable debt that can be repaid within a period of 3 years. We do this by dividing the total long-term debt by earnings. Upon calculating Coca-Cola's financials, I have determined that Coca-Cola has 3,32 years of earnings in debt. It is slightly higher than we would prefer, but not a cause for alarm. Coca-Cola also managed to pay off some of its debt, and it is at its lowest level since 2019.
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Risks
Based on my findings so far, I believe that Coca-Cola is a reputable company. However, no investment is without risk, and Coca-Cola also carries some risks. In their annual report, they mention competition as a risk factor. The commercial beverage industry is highly competitive. Companies in this sector compete against other international beverage companies operating in multiple markets, as well as regional, local, and private label manufacturers. They mention that competitive pressures may cause them to reduce prices or restrict their ability to increase prices, which could be necessary if commodity prices increase. Coca-Cola also mentions that the rapid growth of e-commerce could lead to additional consumer price deflation and pose a threat to some of their traditional route-to-market strategies, potentially impacting their revenues.
Obesity and other health-related concerns. Coca-Cola acknowledges that obesity and other health-related concerns may decrease the demand for their products, as there is a growing public awareness of the negative health effects associated with consuming sugary beverages. Coca-Cola also mentions that government entities could potentially introduce new laws or increase taxes on sweetened beverages to reduce consumption or implement regulations regarding advertising, similar to what we have seen with tobacco companies. Furthermore, it is unknown how the introduction of GLP-1 obesity drugs will affect the demand for Coca-Cola products in the future.
Relying on bottling partners. Coca-Cola generates a significant portion of its revenue by selling concentrates and syrups to independent bottling partners. As independent companies, Coca-Cola's bottling partners, some of which are publicly traded companies, make their own business decisions that may not always align with Coca-Cola's interests. In addition, some of our bottling partners have the right to manufacture or distribute their own products or certain products of other beverage companies. If Coca-Cola is unable to maintain operational and strategic alignment, agree on appropriate pricing, marketing, and advertising support, or if its bottling partners are not satisfied with Coca-Cola's brand innovation and development efforts, they may take actions that, while maximizing their own short-term profits, may be detrimental to Coca-Cola or its brands. Alternatively, they may allocate more of their resources to business opportunities or products other than those of Coca-Cola. Such actions could, in the long term, have an adverse effect on Coca-Cola's profitability.
Reasons to invest
In this section, I would like to address some of the potential that Coca-Cola possesses. The all-weather strategy. Coca-Cola has an all-weather strategy, which means that it should perform well in all economic environments. Coca-Cola can perform well in all economic environments due to its strong brand recognition. This enables the company to pass on additional costs, such as higher prices on commodities, wages, and shipping, to consumers. As a result, Coca-Cola can maintain its margins and profitability. Coca-Cola has demonstrated that its all-weather strategy works in both the long term and the short term. Coca-Cola has shown consistent industry growth over the past 33 years, even during financial crises and a pandemic. In the past five years, Coca-Cola's topline growth has positioned the company among the top rankings of consumer staples companies.
Transitioning into a total beverage company. James Quincey laid out a strategy for Coca-Cola to become a total beverage company. It doesn't mean that they need to accumulate as many brands as possible. In fact, Coca-Cola has reduced its master brands from 400 to 200, enabling global category teams to pinpoint the most significant opportunities and allocate investments towards them. Coca-Cola has made new investments in its brands, such as launching reformulated versions of Sprite and Fanta in 25 markets. This initiative resulted in mid-single-digit volume growth in those markets and contributed to overall gains in sparkling flavors' value share. In Japan, Coca-Cola relaunched Georgia Coffee, which sparked increased customer interest and resulted in gains in market share value. While its investment in fairlife resulted in a 15% volume growth in the U.S. in 2023, marking its 9th consecutive year of double-digit volume growth. Furthermore, Coca-Cola is gradually entering the alcohol industry. In 2021, they introduced their Topo Chico hard seltzer in partnership with Molson Coors. In 2022, a collaboration with Brown-Forman was announced to create a ready-to-drink Jack Daniels and Coke cocktail, which was launched in 2023.
Refranchising bottling. Back in 2017, Coca-Cola decided to refranchise many of its bottling operations, which resulted in many Coca-Cola bottlers now operating their trucks and bottling operations as a fully refranchised system. The reason for this was to move away from the capital-intensive and low-margin business of bottling. This will have a negative impact on revenue and EPS, but a positive impact on margins and profitability. And while a lower EPS may scare some people away, I will quote investor Terry Smith who says, "the rise in EPS seems to have a mesmeric effect on investors, but they ignore the point that more capital is being employed to generate those earnings at ever lower returns." Instead, Terry Smith suggests that investors should focus on the return of capital employed (ROCE), and Coca-Cola's ROCE is growing and higher than it was before 2017. Hence, the point is that this strategic decision will enhance Coca-Cola's profitability in the future.
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Valuation
Now it is time to calculate the share price. I perform three different calculations that I learned at a Phil Town seminar. If you want to make the calculations yourself for this or other stocks, you can do so through the tools page on my website, where you have access to all three calculators.
The first is called the Margin of Safety price, which is calculated based on earnings per share (EPS), estimated future EPS growth, and estimated future price-to-earnings ratio (P/E). The minimum acceptable rate of return is 15%. I chose to use an EPS of 2,47, which is from the year 2023. I have selected a projected future EPS growth rate of 8%. Finbox expects EPS to grow by 8,3% in the next five years. Additionally, I have selected a projected future P/E ratio of 16, which is double the growth rate. This decision is based on Coca-Cola's historically higher price-to-earnings (P/E) ratio. Finally, our minimum acceptable rate of return has already been established at 15%. After performing the calculations, we determined the sticker price (also known as fair value or intrinsic value) to be $13,82. We want to have a margin of safety of 50%, so we will divide it by 2. This means that we want to buy Coca-Cola at a price of $6,91 (or lower, obviously) if we use the Margin of Safety price.
The second calculation is known as the Ten Cap price. The rate of return that a company owner (or stockholder) receives on the purchase price of the company essentially represents its return on investment. The minimum annual return should be at least 10%, which I calculate as follows: The operating cash flow last year was 11.599, and capital expenditures were 1.852. I attempted to analyze their annual report in order to calculate the percentage of capital expenditures allocated to maintenance. I couldn't find it, but as a rule of thumb, you can expect that 70% of the capital expenditures will be allocated to maintenance purposes. This means that we will use 1.296 in our calculations. The tax provision was 2.249. We have 4.308 outstanding shares. Hence, the calculation will be as follows: (11.599 – 1.296 + 2.249) / 4.308 x 10 = $29,14 in Ten Cap price.
The final calculation is referred to as the Payback Time price. It is a calculation based on the free cash flow per share. With Coca-Cola's free cash flow per share at $2,25 and a growth rate of 8%, if you want to recoup your investment in 8 years, the Payback Time price is $23,82.
Conclusion
I believe that Coca-Cola is a great company, and it is hard to find a company in the world with a stronger brand moat. I like the management, and I believe they have made some good decisions. Competition will always pose a risk for Coca-Cola due to the relatively low barriers to entry in the sector. However, with the strong brand of Coca-Cola, I believe that they will continue to compete effectively for decades to come. Obesity and other health-related concerns could pose a long-term risk for Coca-Cola. Not only are people becoming more health-conscious, but there are also many uncertainties regarding how obesity drugs like GLP-1 will affect Coca-Cola in the long term. It is certainly a risk to monitor. Coca-Cola relies on bottling partners, which are individual companies with their own interests. However, it would be surprising if Coca-Cola were not to continue being a priority for bottling partners due to the size of Coca-Cola. Coca-Cola is often considered the perfect "sleep-well-at-night" stock, thanks to its all-weather strategy that proves effective in both the short-term and the long-term. I appreciate Coca-Cola's focus on becoming a total beverage company. This strategy enables the company to invest in its existing brands effectively, yielding great results, and to venture into new markets. Finally, I appreciate Coca-Cola's decision to refranchise its bottling operations, as it is expected to lead to higher margins and profitability, even though there may be a decrease in revenue and EPS. I believe most investors have Coca-Cola on their watchlist, and I would love to add the company to my portfolio. However, I will need a small discount to the intrinsic value. Hence, I will add Coca-Cola if it drops to $40, as it will give me a discount to the intrinsic value on both the Ten Cap price and the Payback Time price.
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