Has Everyone Forgotten About PepsiCo's Crown Jewel?


Source: PepsiCo.com

With all the negative headlines about PepsiCo , you might think the company is getting everything wrong. Indeed, its beverage business has encountered rough times, particularly in the United States. However, with all the talk about the ailing beverage business, it is easy for investors to forget about PepsiCo's crown jewel -- Frito-Lay. The snacks business is firing on all cylinders and provides ample upside for shareholders.

Great business
The snacks business is as good as ever. According to Morningstar, PepsiCo has a 64% salty snacks market share in the U.S., 60% share in Brazil, and 40% worldwide. Pricing power, vast distribution, and economies of scale make the snacks business especially profitable. Frito-Lay North America and Latin American Foods make up 34% of PepsiCo's revenue and contribute 46% of operating profit. By comparison, PepsiCo Americas Beverages accounts for 32% of revenue but only 26% of PepsiCo's profits.

In addition, PepsiCo has proven itself a better company than international snacks powerhouse Mondelez International . Mondelez owns such ubiquitous brands as Nabisco, Oreo, Ritz, Philadelphia, Nilla, Premium, Triscuit, Wheat Thins, and the list goes on. Like PepsiCo, Mondelez derives pricing power from its brands and benefits from economies of scale in advertising and distribution.

However, even with a struggling beverage business, PepsiCo remains much more profitable than Mondelez. PepsiCo generates a high-single-digit return on assets -- down from the mid-teens return on assets it earned before it bought several of its bottling partners. Its return on invested capital is also safely in the double digits.

Mondelez, on the other hand, is not nearly as profitable. Its return on assets and return on invested capital reside in the mid-single digits and have worsened since its split with Kraft. This may be why Nelson Peltz -- the activist investor who is pushing PepsiCo to spin off its beverage business -- is joining the Mondelez board intent on improving profitability. Although Mondelez will never be as profitable as PepsiCo, its struggles in the snacks business shine light on PepsiCo's solid execution and ability to prosper while comparable companies struggle.

Bright prospects
Already earning outsized profits, PepsiCo's snacks business is only growing more profitable. Frito-Lay is gaining momentum in the United States; in 2013, volume increased 3%, organic revenue grew 7%, and operating profit increased 6%. The snacks business is growing in emerging markets as well; volume increased 7% in Africa, the Middle East, and Asia during 2013 -- faster than any other snacks segment.

As of now, PepsiCo's revenue is evenly split between snacks and beverages. However, strong snacks growth in emerging markets and sluggish beverage sales may soon tilt the balance in favor of snacks. PepsiCo CEO Indra Nooyi predicts that "two-thirds of [PepsiCo's] revenue growth [will] come from snacks and, from a geographic perspective, about two-thirds of [the company's] revenue growth [will] come from developing and emerging markets." Over time, the revenue mix will be weighted toward the thriving snacks business and will underweight the struggling beverage business.

Even though many of Frito-Lay's products are not especially healthy, the company is not under fire from public health advocates like those targeting sugary beverages. PepsiCo has been diligent in keeping even its unhealthy products within the realm of reasonable nutrition.

For instance, Lay's Barbecue chips contain only 2 grams of sugar and 1.5 grams of saturated fat. This enables PepsiCo to get away with innovations like chocolate-covered Wavy Lays, which debuted last holiday season to generate buzz around the brand. It has also kept legislators and public advocates from targeting the company -- something its beverage business has not been so lucky to avoid.

Bottom line
PepsiCo's beverage business may be in rough times, but its snacks business is in as good of shape as ever. Investors whose focus is on the headlines could miss out on what the company has to offer: a thriving snacks business masked by a struggling beverage business. If the beverage business slows its descent, the market may return its focus to the outstanding snacks business, sending shares soaring.

Still searching for that one perfect stock? Look no further
There's a huge difference between a good stock and a stock that can make you rich. The Motley Fool's chief investment officer has selected his No. 1 stock for 2014, and it's one of those stocks that could make you rich. You can find out which stock it is in the special free report "The Motley Fool's Top Stock for 2014." Just click here to access the report and find out the name of this under-the-radar company.

The article Has Everyone Forgotten About PepsiCo's Crown Jewel? originally appeared on Fool.com.

Ted Cooper has no position in any stocks mentioned. The Motley Fool recommends PepsiCo. The Motley Fool owns shares of PepsiCo. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

Copyright © 1995 - 2014 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.

Read Full Story