By Bob Ciura

High-quality dividend growth stocks, such as the Dividend Aristocrats, are an income investor’s dream. They provide rising streams of dividend income each year, thanks to their strong brands, competitive advantages, and steady growth.

Food and beverage giant PepsiCo Inc. (PEP) is the latest example of a Dividend Aristocrat, rewarding its shareholders with massive cash returns. On February 13^th, PepsiCo announced fourth-quarter earnings, and beat expectations on both revenue and earnings-per-share. Not only that, the company also announced a 15% dividend increase, and a new $15 billion share repurchase program, which replaces the previous $12 billion authorization.

With the dividend increase, PepsiCo has now raised its dividend payout for 46 consecutive years. This article will discuss why PepsiCo continues to be such a highly rewarding Dividend Aristocrat.

Earnings Overview

PepsiCo is a global food and beverage giant. It has a market capitalization of $155 billion, and generates more than $63 billion of annual revenue. PepsiCo’s business is nearly split between its food and beverage segments. It is also balanced geographically, between the U.S. and the rest of the world.

Source: 2016 Annual Report, page 14

PepsiCo has a large portfolio, and owns many popular brands. Some of the company’s major brands include Pepsi and Mountain Dew sodas, as well as non-sparkling beverages like Pure Leaf, Tropicana, Gatorade, and bottled water. In addition to PepsiCo’s core beverage brands, it also has a large snacks business under the Frito-Lay brand. The company has also built a portfolio of healthier foods, including Quaker, Naked, and Sabra.

2017 was another good year for PepsiCo. For the fourth quarter, PepsiCo had adjusted earnings-per-share of $1.31, which beat analyst expectations by $0.01 per share. Revenue of $19.53 billion also beat, by $140 million. Organic Revenue increased 2% for the fourth quarter. Food and snacks led the way for PepsiCo, with 2% volume growth, compared with a 2% decline for beverage volumes. Frito-Lay North America generated 3% volume growth, and 5% organic revenue growth in the fourth quarter.

For the full year, PepsiCo had adjusted earnings-per-share of $5.23, which increased 9% from 2016. Organic revenue increased 2.3% for the year. Thanks to the company’s strong brands and global reach, 2018 is expected to be another strong year.

Growth Prospects

Two of PepsiCo’s most promising catalysts are growth in healthier foods and beverages, and in the emerging markets. Sales of soda are slowing down in developed markets like the U.S., where soda consumption has steadily declined for over a decade. As a result, large soda companies like PepsiCo have had to adapt to a more health-conscious consumer.

PepsiCo’s diverse portfolio has served the company well. It has products that cater to all tastes, across the health spectrum. PepsiCo has shifted its portfolio toward healthier foods that are resonating better with changing consumer preferences.

Source: 2017 CAGNY Presentation, page 3

According to Forbes, Pepsi is the #30 most valuable brand in the world. Frito-Lay takes the #40 spot. In all, PepsiCo has 22 individual brands that each collect at least $1 billion in annual revenue. Strong brands give PepsiCo optimal shelf space at retailers, and give the company pricing power. Volume growth and price increases fuel PepsiCo’s growth, particularly in the emerging markets.

PepsiCo has a huge growth opportunity in emerging markets like China, Africa, India, and Latin America. These are under-developed regions of the world, with large consumer populations, and high economic growth rates. For example, in the fourth quarter, PepsiCo realized 6% organic revenue growth in the Europe/Sub-Saharan Africa region, and the Asia/Middle East/Africa region. Organic revenue also increased 3% in Latin America. These emerging economies helped offset the 3% organic revenue decline in North America.

Valuation & Expected Returns

Based on PepsiCo’s 2017 earnings-per-share of $5.23, the stock trades for a price-to-earnings ratio of 20.9. For 2018, PepsiCo expects earnings-per-share of $5.70. Using 2018 estimates, PepsiCo has a forward price-to-earnings ratio of 19.1. PepsiCo is still valued slightly above its 10-year average price-to-earnings ratio of 18.7, meaning the stock is not yet a compelling value.

Source: ValueLine

As a result, PepsiCo may not experience expansion of the price-to-earnings ratio. A higher valuation multiple would help boost shareholder returns. However, that does not mean the stock is not worth owning. Far from it—PepsiCo will continue to generate positive returns, through earnings growth and dividends. PepsiCo grew earnings-per-share 9% in 2017, and the company expects another 9% earnings growth in 2018.

PepsiCo’s dividend increase and share repurchase will enhance its future expected returns. Going forward, PepsiCo’s quarterly dividend will rise to $0.9275 per share, effective with the June 2018 payment. The new dividend amounts to $3.71 per share on an annual basis. The forward dividend yield, based on the new payout, is 3.4%. Prior to the dividend raise, PepsiCo was yielding 2.95%.

In addition, PepsiCo’s share repurchases will help accelerate earnings growth. When a company effectively buys back its own stock, it makes each remaining share more valuable. Each remaining share of PepsiCo receives a higher portion of earnings-per-share.

As a result, PepsiCo’s recent dividend and buyback announcement, compel us to raise our estimate of expected returns. The new breakdown of expected returns is as follows:

• 4% to 6% revenue growth
• 3% share repurchases
• 3.4% dividend yield

In the past five years, organic revenue has grown at a 4% compound annual rate. We believe 4% is a reasonable base of future growth expectations. And, the $15 billion share repurchase, to be completed over the next three years, represents almost 10% of PepsiCo’s market capitalization. Based on this scenario, future returns would reach approximately 10.4% to 12.4% per year. This is a highly attractive rate of return, and reinforces PepsiCo’s status as a high-quality Dividend Aristocrat.

Final Thoughts

PepsiCo has a long history of dividend growth. The recent 15% dividend increase pushes the dividend yield to 3.4%. This is an attractive yield, considering the S&P 500 Index yields just 2% on average. PepsiCo has an operating history of 100+ years, and now that it has a 3%+ dividend yield, it will join our list of “blue-chip” stocks. You can see our full list of blue chip stocks here.

PepsiCo stock is not significantly undervalued at this time, but it is not overvalued either. If the share price continues to decline, it could soon become undervalued. In the meantime, investors receive a high level of cash returns, including a 3.4% dividend yield, and dividend increases each year. These qualities make PepsiCo a strong holding for dividend growth investors.

Buying high-quality Dividend Aristocrats when they are significantly undervalued, is a recipe for excellent long-term returns. PepsiCo does not yet meet our definition of a confirmed buy, but it’s getting close. For now, find out which Dividend Aristocrats receive our confirmed buy or sell rating with our service Undervalued Aristocrats, which provides actionable buy and sell recommendations on some of the most undervalued dividend growth stocks around. Click here to learn more.

Disclosure: I am/we are long PEP.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

The post PepsiCo: 15% Dividend Increase And $15 Billion Buyback For This Dividend Aristocrat appeared first on GreatResponder.com.