PepsiCo, Inc. — Q3 2018 Form 10-Q
Business context and reporting period. PepsiCo reports six segments spanning food, snacks and beverages. This unaudited quarterly filing covers 12 weeks ended September 8, 2018, and year-to-date results for 36 weeks; the comparable periods ended September 9, 2017. International results reflect different monthly reporting periods. The interim statements received an independent accountant’s review, not an audit.
Key financial results
Amounts are in millions of dollars except per-share data and percentages.
| Metric | 12 weeks ended Sep. 8, 2018 | Prior-year 12 weeks | 36 weeks ended Sep. 8, 2018 | Prior-year 36 weeks |
|---|---|---|---|---|
| Net revenue | $16,485 | $16,240 | $45,137 | $43,999 |
| Gross profit | $8,958 | $8,872 | $24,692 | $24,282 |
| Operating profit | $2,844 | $2,924 | $7,679 | $7,706 |
| Net income attributable to PepsiCo | $2,498 | $2,144 | $5,661 | $5,567 |
| Diluted EPS | $1.75 | $1.49 | $3.97 | $3.87 |
| Operating margin | 17.3% | 18.0% | 17.0% | 17.5% |
| Gross margin | 54.4% | 54.6% | 54.7% | 55.2% |
Cash flow, debt and liquidity
- For the 36 weeks, operating cash flow was $4.732 billion, versus $6.087 billion; free cash flow, as defined by PepsiCo, was $3.273 billion versus $4.695 billion. Lower operating cash flow primarily reflected $1.5 billion of discretionary pension and retiree medical contributions.
- Cash and cash equivalents were $11.991 billion and short-term investments $1.907 billion at September 8, 2018. Cash, cash equivalents and restricted cash totaled $12.043 billion.
- Short-term and long-term debt totaled approximately $35.1 billion ($4.474 billion and $30.643 billion, respectively), down from approximately $39.3 billion at December 30, 2017. PepsiCo reported no commercial paper outstanding and no borrowings under its revolving credit facilities.
- Cash dividends paid were $3.621 billion and common-share repurchases were $1.442 billion during the 36 weeks. The company expected approximately $7 billion of 2018 shareholder returns: $5 billion in dividends and $2 billion in repurchases.
Material changes and operating performance
- Reported revenue grew 1.5% in the quarter and 3% year to date. Organic revenue growth was 5% for the quarter and 3% year to date, excluding foreign exchange and structural changes as defined by the company.
- Quarterly operating profit fell 3% and year-to-date operating profit was slightly lower. Management cited commodity inflation, operating cost increases, higher advertising and marketing, and unfavorable foreign exchange in the quarter. Higher commodity costs reduced operating profit performance by 6 percentage points in the quarter and 5 points year to date.
- Quarterly diluted EPS rose 18%, while year-to-date EPS rose 3%. These reported increases include substantial tax-related items; excluding specified items, the company reported adjusted diluted EPS growth of 7% for the quarter and 6% year to date, with constant-currency growth of 9% and 6%, respectively.
- Segment trends were mixed. Frito-Lay North America revenue grew 3% in both periods; Quaker Foods North America revenue declined 2% in both. North America Beverages revenue rose 2% in the quarter and was flat year to date, while operating profit declined 14% and 17%. Latin America organic revenue grew 10% in the quarter and 7% year to date. Europe Sub-Saharan Africa organic revenue grew 8% and 7%, respectively. Asia, Middle East and North Africa organic revenue grew 9% and 7%; year-to-date operating profit growth included refranchising gains.
- Foreign exchange reduced quarterly revenue growth by 2 percentage points, primarily due to the Turkish lira, Mexican peso, Brazilian real and Russian ruble. Management said year-to-date foreign exchange had a nominal net revenue impact.
Outlook, management commentary, risks and unusual items
- PepsiCo expected 2018 net capital spending of approximately $3.3 billion. It said operating cash generation, credit facilities and debt financing were expected to meet operating, investment and financing needs, while noting that capital-market access on acceptable terms is not assured.
- The 2014 Productivity Plan was extended through 2019. PepsiCo expected total program charges of approximately $1.305 billion and cash expenditures of approximately $985 million; $1.113 billion of charges and $736 million of cash expenditures had been recorded through the period. Most restructuring accruals at September 8 were expected to be paid by year-end 2018.
- The company agreed to acquire SodaStream for $144 per share in cash, in a transaction valued at approximately $3.2 billion, subject to shareholder, regulatory and other approvals. Closing was then expected by January 2019. Refranchising in Thailand generated a $144 million pre-tax gain; a separate Czech Republic, Hungary and Slovakia refranchising was expected to close in Q4 2018.
- Tax items materially affected reported earnings. PepsiCo recorded an $854 million provisional Tax Cuts and Jobs Act expense year to date, in addition to the $2.5 billion provisional expense recorded in Q4 2017. The company also recognized $678 million of non-cash tax benefits year to date from international tax audit conclusions and an IRS resolution. The TCJ Act amounts remained provisional and could change materially; PepsiCo expected to finalize adjustments by year-end 2018. It estimated transition-tax payments of about $0.4 billion annually in 2019–2023, then increasing amounts through 2026.
- Other notable items include a $1.4 billion discretionary U.S. pension contribution, a $37 million U.S. retiree medical contribution, and currency translation losses that reduced comprehensive income. The company cited risks including commodity and currency volatility, changing consumer preferences and product taxes, geopolitical and economic conditions, supply disruption, competition and retail-channel changes, cybersecurity, litigation, and acquisition or refranchising execution.
- A Colombian environmental authority proceeding concerning alleged wastewater-permit verification violations could result in sanctions of up to $1.3 million, subject to appeal. Management believed the outcome of disclosed proceedings would not materially adversely affect the company. PepsiCo reported no material change in its previously disclosed risk factors.
Most important facts for investors to verify
- Underlying revenue, operating-profit and EPS trends excluding the large tax benefits and expenses, restructuring charges, commodity derivative marks and refranchising gains.
- Whether commodity inflation, transportation costs and currency movements continue to pressure segment margins, particularly in North America Beverages and international markets.
- Cash conversion and free cash flow after the unusually large pension contributions, alongside planned capital spending, dividends, repurchases and debt maturities.
- Final TCJ Act tax measurements and payment schedule, including the potential effects of further tax guidance or state actions.
- SodaStream approval, financing and integration, and completion and financial effects of planned refranchising transactions.
- Progress and realized savings from the productivity program, and any material developments in legal or regulatory matters.