PepsiCo Q3 Strength Results In A Trend Following Buy Signal

Key Points

• PepsiCo stock is down 20% from the recent highs, trading in deep-value, high-yield territory. 
• The Q3 results and guidance suggest this stock can sustain its long-term uptrend. 
• PepsiCo stock yields more than 3% and is trading at the lowest valuation in years. 

PepsiCo NASDAQ: PEP stock is down about 20% since May, which is not a move to be ignored. Investors who bought in early spring are surely feeling pain, but there are rewards ahead for those who can wait. The 20% decline is significant because it suggests a fully corrected market, a market that has returned to more reasonable levels, and a market that can sustain a longer-term uptrend. 

• A textbook stock market correction involves a 10% to 20% sell-off, while a full-blown bear market must fall more than 20% and then confirm new resistance at or near the 20% level. 

Looking at the monthly chart of PepsiCo, the import of the correction becomes apparent: PepsiCo is down from the spring but still within a healthy uptrend and now firing a solid trend-following signal. PEP stock may take some time to return to the spring highs, but the odds favor a retest of those highs and new highs still coming for this Dividend King. 

PepsiCo Pops on Q3 Results; Guidance is Raised

PepsiCo reported a solid quarter for Q3, supported by brand strength and pricing actions over the past 2 years, contrary to the market’s fear. The company delivered $23.45 billion in net revenue, as expected relative to analysts' consensus and up 6.7% compared to last year. Regarding volume, beverage volume is flat YOY, while foods are down only 1.5%, offset by price increases. 

Organic growth, adjusted for divestitures last year, is up 8.8% for the quarter and 11.8% for the YTD period. All segments but 1 produced revenue growth; the outlier is Africa, Middle East, & South Asia, which declined by 6%. All other segments grew revenue by at least 2%, led by a 21% gain in Latin America and a 5% to 8% growth in the core PepsiCo, Quaker, and Frito-Lay segments. 

The margin news is also favorable, with gross and net income margins widening. The net income margin increased by 100 bps YOY to 13.2%, leaving GAAP and adjusted earnings above the consensus. The adjusted $2.25 earnings per share is up 16% compared to the 6.7% top-line growth, beating the Marketbeat.com consensus estimate by 45 basis points. This is a slim margin of outperformance but significant because it led to improved guidance. 

PepsiCo maintained its FY23 revenue target at +10%, a solid figure given the expectation for broad market growth this year. However, execs raised the core organic EPS target by 100 bps to 13% YOY, above the analysts' consensus figures and a catalyst for higher share prices. That strength is compounded by the forecast for next year, which expects top and bottom-line growth at the high end of the target range. That’s revenue up about 6% with high-single-digit earnings growth. 

PepsiCo Is In Deep-Value/High-Yield Territory

Its deep value and high yield are compelling factors driving today's PEP market. The stock, trading near the recent low, is less than 21X earnings, and the value is greater relative to next year’s forecast. 21X is not a value relative to the S&P 500 NYSEARCA: SPY but a deep value relative to PepsiCo’s normal range, between 25X and 30X. The high valuation was set during the pandemic, nearly 35X, and suggests a significant upside potential for the market. 

Regarding the dividend, the stock yields over 3% and 50 bps above the post-pandemic average. That is more than double the broad market average and a safe payout. The payout ratio is a tad high at 65%, but not unusual for a Dividend King. The payout is compounded by share repurchases and a very healthy balance sheet. Cash is more than double YOY, inventory is up, and assets are up, while leverage is less than 2X equity. 

The Technical Outlook: Analysts And Institutions Help Put A Bottom In the Market

Shares of PEP hit a new low just a week before the Q3 earnings were released. The low was sparked by a small wave of downgrades and price target reductions that may be reversed now that the results are in. Regardless, the 12 analysts with the current coverage rate PEP at Hold and see it moving up by 15% from the current levels. Moving to the $186.50 consensus level would put the market near the all-time high and fully confirm the up trend. Until then, PEP stock shows signs of support and rebound at critical levels suggesting this uptrend is intact.