Business Is Good At Coca-Cola, But Not Good Enough
The Coca-Cola Company (NYSE:KO) received two downgrades in two days that raise a serious question about the company’s future. The giant is poised to return to growth but the outlook for that growth is dimming. The problem, ultimately, is Coca-Cola Company’s focus on beverages, a space with ever-decreasing avenues for growth. Competitor Pepsico (NASDAQ:PEP) knows all too well the dangers of a narrow-focus and has been working diligently to diversify its portfolio.
The downgrades come from RBC Capital Markets and Guggenheim and both amount to a neutral rating. RBC lowered its rating to Sector Perform from Outperform citing near-term headwinds and the current valuation. Trading at 27X this year’s and 25X next year’s earnings it is not only more highly valued than Pepsi it is among the most highly valued consumer products companies on the market.
RBC Capital Markets - "Over the past few years, KO has emerged as a leader across the CPG space. While we feel management continues to make the right long-term decisions, the near-term appears out of their control. Our downgrade rationale is simple - we feel valuation is near-full and believe upwards EPS revisions are unlikely over the next few quarters as the negative implications of COVID last longer than consensus assumes."
Guggenheim lowered its rating to Neutral from Buy citing factors that amount to about the same thing; a high valuation. The analysts are still forecasting a return to growth and achievement of the mid-single-digit long-term CAGR but that growth is already priced in.
Guggenheim - "Coca-Cola returning to 5-6% organic growth post-Covid is attainable, in our view, but it's more asset-light structure limits cost leverage that we estimate will ultimately confine EPS growth in the high-single digits range," writes analyst Laurent Grandent.
The Analysts Still Love The Coca-Cola Company
The average analyst’s rating is still a strong Buy but the sentiment is slipping. Over the last 30 days, the balance of new analyst ratings has been neutral despite an uptick in the consensus price target. The consensus price target is up about 1.2% over the past 30 days although it is down from the summer and for the year. Now sitting at $53.59 it implies only 1.5% of upside. RBC maintained its $55 price target, an upside of roughly 4.25%. The Wall Street high price target is $62 and was set by Wells Fargo just a month ago.
Wells Fargo initiated coverage with an overweight rating citing confidence in the business model. According to Wells Fargo’s model, Coca-Cola’s revenue could come in as much as $1.8 billion above the consensus and that estimate was called conservative in the commentary.
Wells Fargo - "Our global recovery model implies $1.3bn upside to KO Street sales consensus (~3% to top line); and, we think this could be conservative, implying we could be entering a period of top-line beats ... We view the dividend as manageable with additional capital deployment potential ahead."
The Technical Outlook: Shares Of KO Retreat To Support
The Coca-Cola Company may be facing some headwinds in 2021 but it is not losing its fizz. Far from it, with a mid-single-digit CAGR that some analysts think too conservative. Looking at the chart, shares have retreated to a major support level in the wake of the downgrades and offering a potential entry point for new money. Support is near the $52 level and may be tested in the coming days. If support at this level holds sideways to upward action is expected over the next few weeks up to and possibly beyond the calendar Q4 reporting period. If support fails at this level shares of KO could easily retest the $51 and $50 levels.
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