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Will Productivity Efforts Drive PepsiCo's (PEP) Q3 Earnings?

Zacks Equity Research

PepsiCo, Inc. PEP is set to report third-quarter 2019 results on Oct 3, before market open. In the last reported quarter, the company delivered a positive earnings surprise of 3.4%.

Notably, PepsiCo has reported positive earnings surprise in 13 of the last 14 quarters and sales beat in eight of the last 10 quarters. Its earnings beat estimates by average of 2.7% in trailing four quarters.

Pepsico, Inc. Price and EPS Surprise

Pepsico, Inc. Price and EPS Surprise

Pepsico, Inc. price-eps-surprise | Pepsico, Inc. Quote

However, the Zacks Consensus Estimate for third-quarter earnings is pegged at $1.50, implying a 5.7% decline from the year-earlier quarter's reported figure. Notably, the consensus mark remained unchanged over the past 30 days. For quarterly revenues, the Zacks Consensus Estimate stands at $16.97 billion, suggesting 2.9% growth from the prior-year quarter’s reported figure.

Let’s see how things are shaping up prior to the earnings announcement.

Factors at Play

PepsiCo’s robust surprise trend is mainly attributable to gains in all six operating segments along with strength in product and geographic portfolios, and progress on productivity targets. Growth across segments is also bolstering the company’s organic revenues. Backed by these trends, the company is likely to continue with its impressive top- and bottom-line performance in the to-be-reported quarter.

The company’s fundamental strength is evident from its solid brand portfolio, product innovation and the strong snacks business. PepsiCo is focused on driving efficiency and effectiveness by lowering costs and plowing back these savings to develop scale and core capabilities. The company now estimates generating productivity savings of at least $1 billion annually through 2023. This, in turn, is likely to boost margins and the bottom line.

These productivity and cost-saving efforts are likely to help the company further ease, synchronize and automate processes; re-engineer the go-to-market and information systems; simplify the organization, and optimize its manufacturing and supply-chain footprint. As part of these restructuring actions, the company estimates incurring pre-tax charges of nearly $2.5 billion through 2023 (with the cash portion of nearly $1.6 billion). Savings from the productivity and restructuring plans will boost revenues and margins over the long run.

Further, PepsiCo has the competitive advantage of selling both snacks and beverages, which are complementary food categories. The company’s complementary snacks portfolio results in cost leverage, capability sharing, cross-category promotions and other commercial benefits. The Snacking segment is expected to continue delivering strong sales and profits, owing to the rising demand for savory snacks.

Furthermore, PepsiCo generates a significant part of its revenues outside the United States (38% of 2018 net revenues). The company is expanding in developing/emerging markets like Russia, Mexico, China, India, Brazil and Africa through tailored distribution models and by offering locally relevant innovation and value-added products. In Mexico and India, PepsiCo has a massive expansion plan for the next five years. Continued growth in these markets should contribute meaningfully to top-line growth in the third quarter.

Expectations for 2019

The company plans to continue investing in capabilities to drive growth. Consequently, it reiterated its guidance for the year.

For 2019, the company estimates organic revenue growth of 4% compared with 3.7% growth recorded in 2018. For the longer term, it projects organic revenue growth of 4-6%.

However, unfavorable impacts of ongoing investments to strengthen business, a higher tax rate and the absence of asset sale and refranchising gains in 2018 are likely to weigh on PepsiCo’s earnings for 2019. Further, adverse currency rates are likely to hurt the company’s sales and earnings this year.

Nevertheless, we expect all aforementioned growth drivers to offset these minor hurdles and help the company continue its robust top- and bottom-line beat trend in the third quarter.

Earnings Whispers

Here is what our quantitative model predicts:

PepsiCo does not have the right combination of the two key ingredients — a positive Earnings ESP and a Zacks Rank #1 (Strong Buy), 2 (Buy) or 3 (Hold) — to beat on earnings.

Earnings ESP: PepsiCo has an Earnings ESP of +0.25%. You can uncover the best stocks to buy or sell before they’re reported with our Earnings ESP Filter.

Zacks Rank: The company currently carries a Zacks Rank #4 (Sell), which combined with a positive ESP makes surprise prediction difficult.

Stocks to Consider

Here are some companies you may want to consider, as our model shows that these have the right combination of elements to post an earnings beat:

Keurig Dr Pepper, Inc. KDP has an Earnings ESP of +2.28% and a Zacks Rank #2. You can see the complete list of today’s Zacks #1 Rank stocks here.

The Estee Lauder Companies Inc. EL has an Earnings ESP of +1.44% and a Zacks Rank #2.

Lamb Weston Holdings Inc. LW has an Earnings ESP of +4.18% and a Zacks Rank #3.

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