At Pepsi, the Glass Is Half Full

INVESTORS HAVE TURNED THEIR BACKS this year on consumer-staples stocks, while chasing after companies that promise faster growth. In PepsiCo's case, they've had added reason to look elsewhere, given declining revenue and profits in the company's North American beverage division -- home of Pepsi products, Gatorade sports drinks, Tropicana juices, Aquafina water and other familiar brands.

Pepsi has suffered as cash-strapped consumers have traded down to private-label products -- or quenched their thirst at the kitchen sink.

Writing off Pepsi (PEP) would be a mistake, however, given its powerful snack-food franchise and the cost savings the company could realize from the planned $7.8 billion acquisition of two of its key bottlers. Besides, its shares, now around 63, look cheap. As the economy starts to recover, Purchase, N.Y.-based Pepsi could regain its fizz.

Pepsi earned $5.9 million, or $3.68 a share, last year, on revenue of $43.3 billion. This year, the company is expected to earn $3.76 a share, and next year, with the bottlers included, it could net $4.22.

.That's consistent with CEO Indra Nooyi's recent statement that Pepsi is targeting 11% to 13% growth next year in earnings per share, excluding the impact of currency translation, and assuming the bottling deals close on schedule, early in 2010. Some fans of the stock expect Pepsi to enjoy robust growth for at least several years.

"We see a path for double-digit earnings growth over the next three years," says Bill Pecoriello, CEO of ConsumerEdge Research, who has an Outperform rating and a 12-month price target of 72 on Pepsi's shares.

Mario Gabelli, chairman and CEO of Gamco Investors, which manages mutual funds, is even more optimistic, noting that in the next few years, "the stock [could] trade 50% to 60% higher, which, with the dividend, gives you a pretty good return."

Gabelli, whose funds own Pepsi shares, bases his analysis on what he thinks the company's parts could be worth in private-market transactions. Pepsi pays a dividend of $1.80 a share, and yields 2.8%.

Pepsi trades for 15 times next year's consensus estimate, near the bottom of its 10-year range of 13.1 to 31.6 times expected earnings. It also trades at a discount to arch-rival Coca-Cola (KO), which sports a price/earnings multiple of 17, and consumer-products giants such as Colgate-Palmolive (CL) and Procter & Gamble (PG), which trade, respectively, for 17.3 and 15.6 times 2010 forecasts.

If Pepsi's profit grows by double digits this year and next, the company could earn as much as $5 a share in 2012, says Ian Jamieson, a portfolio manager at BlackRock, which owns the stock. As the market anticipates that profit growth, the shares could climb to 85, he says, assuming Pepsi's P/E expands to reflect the strength of its business.