Keurig Dr Pepper Earnings: Beverage Resilient, but Soft Demand and Cost Pressure in Coffee Persist

We plan to maintain our $34 fair value estimate on narrow-moat Keurig Dr Pepper KDP after digesting second-quarter results (organic revenues up 6.1% and adjusted EPS up 7.7%) that matched our forecasts. Our 10-year estimates for mid-single-digit sales growth and low 20s operating margins remain in place. Following a 4% pop on the report, shares trade in a range we’d consider fairly valued.

For the beverage segment, despite a 12% price increase (similar to hikes at wide-moats Coke and PepsiCo), demand held up well (with flat volume), supporting our sanguine view. We attribute beverage resilience to brand resonance, innovation (including zero-sugar sodas and Dr Pepper Strawberries and Cream), and expanding offerings in energy drinks and sparkling water. Even with a step-up in marketing expenses, operating income outpaced topline (up 18%) thanks to pricing, efficiency gains, and easing cost pressure. We expect price hikes to moderate as the firm preserves its beverage value proposition, but soda innovations and nonsparkling drinks will continue to fuel growth.

Still, weak coffee performance (sales down 6% and operating profits down 15%) reinforced our concerns about the segment’s outlook. Partly to blame are factors including at-home coffee demand being pressured by mobility shifts postcoronavirus pandemic and channel inventory adjustments a year ago, but we view soft demand for brewers (leading indicator of pod volume) and the difficulty in raising prices to offset cost inflation as underlying issues that suggest a weaker competitive standing. We give management credit for efforts in innovation (with the new K-Iced coffee brewer and pods targeting younger coffee drinks) and in stepping up brand and marketing spending to maintain consumer connection. These are prudent moves to defend Keurig’s long-term standing in coffee, but we see limited relief on the margin front in the next few quarters while the firm negotiates for higher K-pod prices with brand partners.