Pepsi Versus Coca Cola - Case Study Example

Financial Analysis Table of Contents Financial Analysis Table of Contents 2 Introduction 3 Business Orientation of both the companies 4 Economic environment and industry specific conditions 6 Financial Analysis 7 Conclusion 16 Reference 17 Bibliography 20 Appendix 21 Introduction Talk of business rivalry and the most formidable names that come to the mind are Pepsi and Coca Cola. The rivalry among them is much well known to the business world. This report is an attempt to evaluate and analyse the organisations and their business orientation. Although both the companies are global in nature, Coca Coal owes its origin to UK while US has been the host of Pepsi. The difference in the economic environment of the two regions is a definite factor that contributes to the growth and strategy formation of the two leading companies in the beverage industry. Financial analysis is one significant tool with the help of which one can comment on the internal liquidity and risk state of the organisations. Liquidity and solvency are the two significant characteristic of a well managed company. So this report has been segmented in three different parts. The first part takes into account the business orientation of the organisations through the process of international strategy development. The latter part deals with the discussions on the economic environment of the two regions with a focus on the two organisations. Financial analysis will be included in the last part, together with the discussion of various ratios, inherent risk and analysis of significant financial figures. A conclusion will be inferred from the analysis of its internal and external environments. The Companies: An Overview Coca Cola Coca Cola is one of the leading soft drink companies in the world. The organisation owns the top four brands in soft drink category which includes Coca-Cola, Diet Coke, Fanta and Sprite. The company is also the host to other such brands like Minute Maid, Powerade and Dasani Water. Apart from all these, the company produces and offers licences to above 3000 drinks under some 500 brand names in around 200 nations. The company does not carry on the bottling process; still the organisation owns 34 % stake in the leading Coke bottler Coca Cola Enterprises. At the same time the organisation also has certain stakes in the bottlers in some more countries (Hoovers, 2010). Pepsi Pepsico is the second largest carbonated soft drink maker. The soft drink brands under Pepsico include Pepsi, Mug and Mountain Dew. Carbonated soft drink is not the only product of Pepsico. Other beverages include Tropicana juice, SoBe tea, Gatorade sports drink and Acquafina water. The organisation is owned by Frito-Lay which has been the leading snack maker with a range of offerings like Lay’s, Doritors, Ruffles and Fritos. Its food units also offer cereals like Quaker Oats, rice and some other side dishes. The products of Pepsi are available in around 200 countries. In this year, the organisation has acquired two largest bottlers, PepsiAmericas and Pepsi Bottling Group (Hoovers, 2010). Business Orientation of both the companies Pepsico was formed in the year 1965 with the unification of Pepsi Cola Co and Frito Lay. The merger of these organisations led to the birth of one of the largest consumer product companies in the Unites States (Anderson & Vincze, 2008, pp 142). The traditional business of this organisation was more inclined to the sale of soft drinks to the licensed independent bottlers who had been manufacturing, selling and distributing the Pepsi Cola soft drink. However later on, the company had introduced a number of other soft drinks under different names and various snack food items. Pepsico had also acquired fast food companies like Pizza Hut, KFC and Taco Bell. The strategy of diversifying the business into three separate but related market segments like soft drinks, snack foods and fast foods have contributed to the development of one of the largest consumer product brands. Between the years 1990 and 1996, the growth had been quite attractive for the company with an annual rate of more than 10 percent with an outstanding sales figure of $ 31 billion (Gillespie, Jeannet & Hennesey, 2009, pp 576). However, the organisation faced challenges in its fast food segment. Declining profitability margins in the fast food chains reflected in the increasing maturity of the US fast food industry has resulted in selling some and spinning off the others into a new business enterprise Tricon Global restaurant, now famously known as Yum! Brands, Inc. Previously the organisation owned a number of brands, some of which were sold later on. At the end of the twentieth century, a number of business writers would remember Coca Cola as the one who taught significant lessons on the manner in which business should be conducted. The company has introduced various brands under its brand name. The business of the organisation is not as diversified as Pepsico. The business orientation of Coca Cola is to produce and sale beverages. To facilitate the process, the company has been into tie ups with a number of fast food chains like Domino’s. This has boosted its sales as more customers have been opting for the combined package. Coca Cola has a rigorous growth strategy and prefers to keep the retain earnings to encourage growth. Coca Cola reinvests 60 % of its profits back into its business. This capital expenditure is meant for product development and for opening new markets around the globe. This has enabled Coca Cola to have high profit amounts on high sales figure. The organisation invests a good amount of its profit amount into its research and development, market research, promotion and advertising, opening new distribution channels etc. Coca Cola, in this way, was able to outperform all its competitors. Profits lead to increase in sales, which in turn increases the profit amount (Needham, 1999, pp 337). The business orientation of both the companies is towards the beverage section, although PepsiCo has diversified its business towards snack foods and fast food segments. While Pepsi had its own fast food restaurant chains, Coca Cola tied its knot with fast food chains like Dominos. Pepsi used its profits mostly to acquire new businesses, while Coca Cola used much of its profits into their research and development, market research, advertising and promotional activities. This has surely given an extra edge to the Coca Cola over its rival PepsiCo. Economic environment and industry specific conditions The world experienced a severe financial turmoil in the last two years. The economic downturn resulted in the slow down of consumer spending. The beverage industry too was no exception to it. The industry experienced a slow down in its revenue growth because of the declining trend in the consumer spending. At the same time, people have become more health conscious. That carbonated soft drink can have a negative impact on the health have made many consumers averse to it. This increased health consciousness has further slowed down the consumer demand. Financial Analysis Ratio analysis is one of the significant financial tools that reveal the financial position of a firm. The whole analysis has been segmented into four different types of ratios which include profitability ratios, efficiency ratios, liquidity and solvency ratios. Coca Cola uses the Straight Line method of depreciation for the assets. The estimated useful life of the asset varies between 10 to 40 years. No depreciation is charged on land and “construction-in-progress.” (The Coca Cola Company, 2009, pp.76). The company values inventory at Average cost or FIFO or first-in- first-out basis. Pepsi records amortization and depreciation using Straight Line method. The company does not depreciate “construction in progress” and land. For valuing its inventory the company uses Average, FIFO or last-in-first-out (LIFO). In 2009 nearly 10 percent of the inventory cost was computed using LIFO (PepsiCo, 2009, pp. 85). The whole analysis has been done considering the three years’ data for both the companies. Profitability Ratios Gross Profit Margin The gross profit margn of a company is expressed as (Revenue -Cost of goods sold) / Revenue (Investopedia, 2010). A high margin indicates that the company has been able to control its operating expenses sigificantly. From the above graph, it is evident that Coca Cola has been able to maintain much more profitability than that of PepsiCo. The gross profit margin against revenue is quite high for Coca Cola, though Pepsico had been able to earn more revenue than Coca Cola. The cost of sales of the later one is lower than the former one. Coca Cola has been able to cut down its costs more than its extreme rival, PepsiCo. Trend wise, both the companies have shown consistency regarding the gross profit margin, even in the year of financial downturn. The revenue of Coca Cola has decreased in the last two years, while Pepsico has been succesful in increasing its revenue. However, Coke had been able to secure more profit margin than its rival. The reason was that with the declining sales the organisation was able to cut its cost in alignment with the decreasing demands. Net Profit Margin Coca Cola has shown the same trend in gross profit margin. Despite the declining revenue, the company has been able to make more profit as a percentage of its revenue when compared to that of Pepsico. The tax amount was much less for Coca Cola. At the same time there have been certain other expenses which have been low for Coca Cola than that of PepsiCo. Although PepsiCo has been able to earn more revenue, failure to cut its cost didn’t bring larger profit margin. Return on Assets Return on assets is calculated as net income divided by total assets. It reveals the productivity of assets of any firm. The return on assets is quite high for PepsiCo. This is because of the high revenue, secured by PepsiCo. The total asset amount has been higher for Coca Cola. However the management is not capable enough to use its physical resources to fetch more revenue. Coca Cola has to look into this matter and make full use of its assets to increase the revenue. Coca Cola has shown a downward trend in the return on assets. This is because of the declining demand in the last two years due to economic turmoil. Return on Equity Return on equity is quite significant from the investors’ point of view. Investors are interested in the return they are supposed to get from their investment in the company. This can be calculated using the extended DuPont Equation. As per the equation, Return on equity can be calculated by multiplying the profitability margin, total asset turnover and equity multiplier. Equity multiplier is calculated as total assets against the equity value (University of Michigan – Flint, n.d.). PepsiCo has been able to offer much more return on equity as compared to Coca Cola. The reason is that the equity multiplier is quite less for Coca Cola than that of PepsiCo. At the same time, the total asset turnover is much higher for PepsiCo, which in turn has increased the return on equity for PepsiCo. The investors of PepsiCo must be happy with the returns they are getting from their investment in the organisation. Stock Turnover Ratio Stock turnover ratio is one of the efficiency measuring ratios which can be used to measure the efficiency of the inventory managemnet of an organisation. The cost of sales has been quite high for the organisations, which in turn has increased the stock turnover ratio. Although the stock level of Coca Cola has been much lower than that of PepsiCo, still the stock turnover ratio for PepsiCo has been higher for the latter one. Asset Turnover Ratio The asset turnover ratio has been much higher for PepsiCo. The reason is, the higher revenue of PepsiCo as compared to that of Coca Cola. Undoubtedly, Coca Cola has to manage its assets properly to increase its revenue per assets. The asset turnover can be improved by speeeding up collections, disposing off redundant assets, use surplus cash to repay debts etc (Korea University OpenCourseWare, 2009). Quick Ratio Current and quick ratios are two significant ratios which can be used to measure the liquidity of a firm. The liquidity condition of a firm is of much importance to the bond holders, suppliers and other creditors. A firm must enhance its liquidty to survive the critical situations. In case of fiancial downturn, companies extend their hands to the liquid assets to pay off its obligations. Quick assets include liquid assets like cash and cash like assets, receivables etc which can be turned into cash within a short span of time. Quick ratio can be measured as the quick assets per current liabilities. Compared to Coca Cola, the liquidity condition of Pepsico has been much higher in 2007. However in 2009, both the companies had almost the same quick asset ratio. Undoubtedly, both the companies have successfully enhanced their liquidity positions in these two years. The trend line for Coca has been much steeper than that of PepsiCo. Current Ratio Debt Equity Ratio Another significant ratio that analyses the amount of risk an organisation is exposed to is the solvency ratio of the firm. From 2007 till 2008, the PepsiCo had enhanced its debt position. This has helped PepsiCo to pay off much of its obligations thereby reducing the debt equity ratio. On the other hand, Coca Cola has always preferred to keep a low debt amount as compared to its liquidity position. Coca Cola can enhance its debt position up to a certain extent without taking considerable risk on its accounting book. Conclusion One of the most laudatory performances of Coca Cola is that, the organisation has successfully cut down a considerable portion of its cost. The company has maintained its inventory to a certain level where the cost incurred can be minimised to a certain amount. However, the organisation has not been so successful in the asset management. Coca Cola must try to enhance its asset management by efficiently using its assets to fetch more revenue. PepsiCo, on the other hand, must come up with strategies so as to minimise its cost of sales, which in turn would increase its profitability margin. The present share price of Coca Cola has been 52.41 USD with around 2.14 % positive change, while the share price for PepsiCo is around 63.46 USD with 1.12 % positive changes (Reuters, 2010). Looking at the high return on equity value of PepsiCo, it would advisable to buy its stock. Coca Cola has also been showing enough growth in its share price. With the recovery of economic conditions, the share price of Coca Cola is expected to grow higher. In such a case, it would be recommended to hold the shares. Reference Anderson,H., C., Vincze, W., J. Strategic Marketing. USA, 2008. The Coca Cola Company. 2009. Property, Plant and Equipment. FORM 10-K. Available at: http://www.thecoca-colacompany.com/investors/pdfs/form_10K_2009.pdf [Accessed on June 05, 2010]. Gillespie, Jeannet & Hennesey. Global Marketing, 2009. Biztantra, 2009. Hoovers. 2010. The Coca-Cola Company. Available at: http://www.hoovers.com/company/The_Coca-Cola_Company/rfyhsi-1.html [Accessed on June 03, 2010]. Hoovers. 2010. PepsiCo, Inc. Available at: http://www.hoovers.com/company/PepsiCo_Inc/rrrjji-1.html [Accessed on June 03, 2010]. Investopedia. 2010. Gross Profit Margin. Available at: http://www.investopedia.com/terms/g/gross_profit_margin.asp [Accessed on June 05, 2010]. Korea University OpenCourseWare. 2009. Improve Asset Turnover. DuPont model of Profit Analysis. Available at: http://ocw.korea.edu/ocw/college-of-life-sciences-and-biotechnology/agribusiness-finance/pdf-files/PDF%20file/12DuPontSummary.pdf [Accessed on June 05, 2010]. Needham, D., Dransfield, R., Coles, M., Harris, R. & Rawlinson, M. Business for Higher Awards. Chicago: Heinemann Educational Publishers, 1999. PepsiCo. 2009. Note 14 Supplemental Financial Information. 2009 Annual Report. Available at: http://www.pepsico.com/Download/PEPSICO_AR.pdf [Accessed on June 5, 2010]. Reuters. 2010. PepsiCo, Inc. Available at: http://in.reuters.com/finance/stocks/financialHighlights?symbol=PEP.N [Accessed on June 03, 2010]. University of Michigan – Flint. No Date. Analysis of Financial Statements. Available at: http://www.umflint.edu/~mjperry/561-3.htm [Accessed on June 03, 2010]. Bibliography Davis, E. Bannock, G. &Trott, P. Dictionary of Business. UK: Penguin Books, 2003. Shim, J. & Siegel, J. Financial Management. New York: Barron’s Educational Series, 2000. McGraw-Hill. No Date. Return on Invested Capital and Profitability Analysis. [Online].Available at: http://highered.mcgraw-hill.com [Accessed on March 10, 2010]. Appendix Read More