The Coca-Cola Company Message Board

See if I can offer a short answer to this one.

KO's five year average return on equity (ROE) is roughly 50%, (now it's 60%). Cash dividend payout is 32%. That means 68% of the net earnings are retained by the company to add on to the equity base. Theoretically, equity should grow about 34% annually (50% * 0.68 = 34%). In reality, it may grow a little bit less than that, depending on how efficient managers allocate those retained earnings. Coke's people have a good reputation on this one.

Five years from now, equity base should grow to between 3 to 4 times its current size. We know KO's historical P/E ratio is
between 25-40. Now it's close to the high end. Let's assume KO trades at the recent historical average P/E of 30 in five years, its
market cap certainly cannot triple because of P/E retraction. But it should be able to double its current size. That's about 15%
capital appreciation annually. Not spectacular, but acceptable under the current market conditions. Of course, one improves the
return if the purchase is made at a lower P/E ratio. I personally prefer to purchase KO at a P/E of 25 and ride it all the way up
to 40. But it's not realistic at this moment.

Motley Fool's argument for PEP over KO is not convincing, at least to me. PEP's ROE is only half of KO and its dividend payout is almost the same as KO. The P/E ratio is not exactly low, either. It's probably not as reliable as KO, as history shows.

dmtacy wrote:

<<Can someone who likes this stock explain to me why people are
paying 40x earnings for it. Anticipated earnings growth this year
is like 4%. Coke is noncyclicial, but is susceptible to worldwide
depression. Longterm growth from here on won't be fantastic. Why
on earth would anyone pay $60+ for a stock that earns $1.60 and a
dividend ratio of less than 1. For what its worth, I think that
this stock is an excellent example of why this market is
overvalued. There seem to be certain stocks that people get
irrational about and just buy. So does anyone have any ideas?
Some kind of explanation from a KO enthusiast would be
appreciated.>>

I'm not going to attempt to defend KO's stock price -- it's
occurred to me as well that it's a bit rich. However, I am a KO
shareholder and I am sold on the overall excellence of KO as a
company. Briefly, here's why:

1) Excellent management. Since the mid-1980s, KO's management has
been able to achieve spectacular returns on equity and earnings
growth rates by shedding stupid diversification moves made in the
70s and becoming the dominant force in international soft drink
sales. Douglas Ivester may be a new CEO, but he is a long-time
member of KO's management team; therefore, I expect this
excellent management to continue.

2) Most recognized brand in the world. Even an idiot could make
tons of money with the Coca-Cola brand name, and KO is not run
by idiots.

3) Outstanding prospects for overseas growth. International sales
account for 80% of KO's profits, and the internaitonal market is
not even close to saturation. The average person from India or
China consumes between 2 and 3 KO beverages per year, less than
one percent of the 360 or so the average person from the United
States consumes. Coca-Cola has demonstrated an ability to achieve
dominant market share in foreign markets, and I believe that they
can do it in India, China, and other markets where they do not
now have a huge presence. KO could realistically see 20% growth
in some huge foreign markets like India and China for more than
a decade, and these markets are home to more than 2 billion
people. Maybe KO will only see earnings growth of 4% next year
(although I really question the ability of analysts to forcast
earnings with any acceptable degree of accuracy), but its
prospects for long-term double digit earnings growth are still
excellent.

You say that KO is susceptible to a worldwide depression. This is
true, but just about every company would see hard times in the
event of a worldwide depression -- if you believe that we are
entering a worldwide depression, then I question whether you
should be putting your money in any equities at all.

If you can give me a good reason why someone would spend $0.60 for a can of sweetened water, and do this every day, year-in and year-out (U.S. consumption, 8 ounce servings), than that is the reason to buy Coke. Water is much cheaper than Coke, perhaps one should buy American Water Works (AWK).

KO, for me, has been a fantastic investment. I've enjoyed two
stock splits in a relatively short period of time. My only regret
is not purchasing COCA-COLA much earlier in my life as I'm
now a senior. Yes; Coke is the most recognized symbol on
the planet earth. Yes; I drink at least two cans of coke a
day as well as other coca-cola products. Yes; I promote
my company every chance I get. AND Yes; Buy now and
in the mid term, three to five years, the rewards will be
substantial. P.S.---I'm personally not concerned with the
higher P/E ratio.