Coca-Cola and Pepsi Are Both Refreshing Dividend Plays

Sonia Vora: Coca-Cola and Pepsi pay some of the most attractive dividends in the beverage space, yielding north of 3%. Both companies have an impressive track record of returning cash to shareholders, as evidenced by a dividend increase each year for more than 40 years.

Longer term, we expect both firms to post average dividend growth around 7%. This implies a roughly 65% payout ratio for Pepsi and 75% payout ratio for Coca-Cola. Further, despite the fact that both firms made sizble acquisitions in August, with Pepsi acquiring Sodastream and Coca-Cola acquiring Costa, we expect them to remain committed to their dividend and continue to view their capital allocation policies as prudent.

We think Pepsi and Coca-Cola have secured wide economic moats, thanks to their brand-intangible assets and a cost advantage over their peer set, which should ensure that their returns on invested capital remain strong. Pepsi has 22 billion-dollar brands in the beverage and snack categories, which have helped it form entrenched relationships with retailers that rely on leading brands to drive inventory turnover. Similarly, Coca-Cola possesses substantial brand equity and an unparalleled distribution network distribution as its trademark offering is one of the most recognizable global beverage brands.

In addition to the attractive dividend yield, we view shares of both names as slightly undervalued, which could provide an attractive entry point for investors. Shares of Coca-Cola trade at a 6% discount to our valuation, while shares of Pepsi trade at a 7% discount.