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Do Rational Investors Prefer Coke?

April 20, 2014 | About:

Investment has always been the best way to earn easy buck. The truth about investment? It is risky. More so because one cannot be sure about the results. I mean you put your money on a stock of your choice and you still cannot be sure about how nice or big a return you can expect. By choice I do not mean one is guided emotionally. Obviously not. Becoming emotional while investing would be the silliest or for that matter the most dangerous thing one can be expected to do. Of course, there are emotions attached while investing but all those ties are with your money and not the stock you’re investing in. By choice I also did not mean that investors have particular favorites at the stock markets. It’s a simple WPM (whoever pays more) rule that governs their decisions.

The beginning of this year saw many an investor diverting their funds to high paying sectors like the REIT (real estate investment trusts) and energy limited partnerships (LPs). This move was a result of the slow economy of the US. This stagnation had as a result reduced the overall return on investment. The only way out was to invest in high paying and highly risky REITs or certain blue chip corporations which are not much affected by business cycles.

As time passed the economy did better by as much as 3% which was not too bad. The economists owed it to the inventory built up in the slow moving times. This generated robust demands and bingo the rate of return was back on track.

The economy witnessed yet another thing. The high momentum stocks rallied over 30%. This increased the earnings by around 5% year over year. The analysts expect these figures to rise in low single digits for the rest of 2014.

People are however, preferring to invest in blue chip stocks and are selling away the previously bought REIT stocks. One of the ways to go to now is Coca-Cola (KO). People are choosing the cold drink maker for its stable payouts. The analysts however have their doubts regarding the stock.

Coke’s Future:

Coca-Cola is going for just under 20x forward earnings and just over 18x projected FY2015's EPS. Even with its recent rise, Microsoft is selling for under 15x forward earnings and under 14x FY2015's consensus EPS.

Coca-Cola's sales growth looks like it will be flat in 2014. Consensus shows it is projected to post just over 4% increases. One other thing that the economists think might go against the growth of the growth of the company is the fact that its revenue comes mostly from overseas customers. This might put it under attack because of currency movements.

Coca-Cola currently pays a dividend of 3%. The company has doubled its payout over the past eight years. Its payout ratio is over 50%. The cash richer companies sometimes don’t offer as high a payout. In spite of having a great run for the last few years and a very rich payout ratio, the company is headed for a flat in the coming months and hence any investment whatsoever is discouraged.

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Jtdaniel premium member - 3 years ago

Hi Nitish,

Thank you for the good article. Have you considered the compounding impact of KO's consistently high return on equity? A consistently high ROE can produce a worthwhile long-term result, even if the shares are purchased at a P/E of 18 or 20. A 3% dividend yield is nice, but by no means the only reason to own KO. Coke may deserve a slightly higher multiple than Microsoft, because it less subject to change and brilliant competition. I am content to hold shares in both companies.

Black Iguana
Black Iguana - 3 years ago    Report SPAM

Hi Jtdaniel,

Thank you so much. I just wanted to show that even with a low ROE and a P/E of something around 18 or 20 would be good enough to fetch decent returns. That the stock is less vulnerable to stiff competion when compared to those like MSFT or for that matter AAPL is true. But this very fact justifies its stability anda non volatile behaviour. I just wanted to highlight this point.

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