Pepsi Grows Profits, Shrugs Off Soda Decline, and Bests PB&J

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PepsiCo (NYSE:PEP) profit rose in the first quarter of 2014, but it was not from the effervescence of high soda sales. The company has a diverse portfolio of 22 brands — from its namesake soda, Gatorade, Mountain Dew, and Tropicana juices to snacks like Fritos, Lays, Cheetos, and even Quaker Oats — and that product diversity has helped the company immensely in recent quarters.

As demand for sugary, carbonated drinks has declined,  growth in the company’s beverage segments slowed in many regions, and the domestic profit of rival Coca-Cola (NYSE:KO) has flattened. In the first quarter, PepsiCo’s global beverage volume, including the important North American unit, was relatively unchanged from a year ago. But that hiccup has been offset by a sales expansion in its food divisions, which, along with cost-cutting measures, allowed the company to report better-than-expected first-quarter profit on Thursday.

Strong sales in the company’s snack food divisions and double-digit growth in emerging markets lifted quarterly profit. Earnings showed that in the quarter ended March 23, the soda and snack manufacturer posted net income of $1.22 billion, or 79 cents per share — 4 cents better than analyst expectations and an increase from the $1.08 billion, or 69 cents per share, reported a year ago. Excluding certain items, earnings came in at 83 cents per share. Alongside that bottom-line earnings beat, PepsiCo reported $12.6 billion in first quarter revenue. While sales were relatively unchanged from the year-ago quarter, they did exceed Wall Street’s expectations for first-quarter revenue of $12.4 billion.

“We’re pleased with our performance in the first quarter of 2014. PepsiCo delivered mid-single-digit organic revenue growth and double-digit core constant currency earnings per share growth, despite ongoing macroeconomic volatility, political instability and other challenging marketplace conditions in a number of our key markets,” said Chairman and Chief Executive Officer Indra Nooyi in the earnings press release.

She pointed out that PepsiCo’s growth came “despite ongoing macroeconomic volatility, political instability and other challenging marketplace conditions in a number of our key markets.” Those factors did contribute to net revenue declines of 2 percent in the Latin American foods division and 5 percent in Asia, the Middle East, and Africa. However, Europe gained 1 percent.

“We continue to perform well, in part, because we have strong, balanced portfolios of brands, products and geographies that enable us to capture growth opportunities across multiple demand spaces while we responsibly manage through the volatility and challenges in other parts of the business,” said Nooyi. More specifically, PepsiCo’s snacks division saw volume increase 2 percent in the first quarter, with revenue swelling to $5.2 billion. Meanwhile, generating $7.4 billion in revenue, beverage volume was flat.

During an interview on CNBC’s “Squawk Box” on Thursday morning, after earnings were released, PepsiCo Chief Financial Officer Hugh Johnson attributed the company’s better-than expected earnings to a rapidly growing trend in consumer spending. Shoppers are increasingly buying both snacks and drinks owned by PepsiCo, Johnson said, explaining that consumers buy those products together more often than traditional lunchbox staples like peanut butter and jelly.

Investors, who have bid shares of PepsiCo up 2.21 percent over the past 12 months through Wednesday, reacted to the earnings report with only a small amount of optimism, pushing shares up around 0.32 percent, to $85.04, in early morning trading. “All of our investors will be pleased, and honestly as investors look for defensive places to put money in right now, PepsiCo is a terrific investment in that regard and I don’t know why anyone would want to disrupt that,” said Johnson, referring to pressure that activist investor Nelson Peltz has recently put on management.

While he would not directly comment on the demands of Peltz — who wants the company to separate its snack and beverage operations — Johnson did say that strong first-quarter earnings proved PepsiCo’s stock was a good bet in a volatile stock market. He questioned why any shareholder would want to disrupt a company with strong earnings. Comparatively, rival Coca-Cola — with has shares that are trading at approximately half the value of Pepsi’s — saw earnings gain momentum in the last quarter, but the company must also continue to find a way around falling demand for sugary sodas.

Despite the strong headline numbers displayed in the company’s earnings report, the focus of the investing community has been on what Pepsi is not doing rather than what the soda maker has been doing well. The company has staunchly refused to follow the suggests of Peltz, whose Trian Fund Management owns a stake of more than $1 billion in Pepsi. And — unlike Coca-Cola, which has partnered with Keurig Green Mountain (NASDAQ:GMCR) to create a single-serve cold drinks machine to rival Sodastream International (NASDAQ:SODA) — the company has not pursued the “make your own soda” business, which allows soda drinkers to make carbonated beverages without all the sugar. However, unconfirmed reports have suggested Pepsi may pursuing that route soon.

Still, Thursday morning earnings do show that Pepsi’s business is stable. As Johnson told The Washington Post in a Thursday morning phone interview, the company has boosted its marketing efforts, which have strengthened the company’s brand cachet. And greater brand strength will allow PepsiCo to charge higher prices. According to the CFO, the company plans to increase prices of both snacks and drinks between 2 and 3 percent this year. “As we make the brands stronger, consumers are willing to accept that,” he said.

For both Pepsi and Coca-Cola, developing new strategies to charge customers more for the same product has been critical to offset declines in soda volumes. Part of the strategy has included introducing so-called “mini cans,” which both companies say reflects consumer desires to moderate portions. The smaller sizes are also more profitable. Of course, as Pepsi CEO Nooyi noted in an earnings call, “taking down pricing is not going to drive up demand all that much.” However, with a strong first quarter completed, PepsiCo reaffirmed its earlier guidance for 2014.

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