PEP

Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended September 8, 2001 (12 weeks) and the year-to-date period (36 weeks) for PepsiCo, Inc. The reporting period is significantly impacted by the completion of the merger with The Quaker Oats Company on August 2, 2001. Consequently, prior period financial statements have been restated to reflect the combined entity as if the merger had always occurred (pooling-of-interests method). The filing also addresses the impact of the September 11, 2001 terrorist attacks on global macro-economics and subsequent share repurchase activities.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Growth: Net sales increased 8% for both the quarter and year-to-date, driven by volume gains, higher effective net pricing, and the acquisition of SoBe. Foreign currency fluctuations had a net unfavorable impact of approximately 1 percentage point.
• Profitability: Reported operating profit decreased 11% for the quarter and increased 10% year-to-date. However, comparable operating profit (excluding merger and restructuring costs) increased 11% for both periods, reflecting strong underlying performance.
• One-Time Charges: The company recognized $235 million in merger-related costs for the quarter (transaction and integration costs). Additionally, $21 million in other impairment and restructuring charges were recorded year-to-date, primarily related to Quaker's supply chain reconfiguration.
• Debt Reduction: Net interest expense declined significantly (25% for the quarter, 23% year-to-date) due to lower average debt levels. Long-term debt decreased by approximately $450 million from the prior year-end.
• Cash Position: Cash and cash equivalents decreased by $578 million year-to-date, primarily due to net purchases of short-term investments, dividend payments, capital spending, and the acquisition of SoBe.

Guidance, Outlook, and Risks

• Merger Synergies: Management expects ongoing merger-related cost savings and revenue enhancements to reach $400 million annually by 2005. Between $140 million and $175 million of these synergies are expected by the end of 2002. Total integration costs are projected to be between $450 million and $550 million.
• Share Repurchases: Subsequent to the quarter, PepsiCo repurchased 35.4 million shares for $1.7 billion under emergency SEC orders following the September 11 attacks. The Board authorized up to $2 billion in repurchases.
• Risks and Contingencies:
  • September 11 Impact: The filing notes that global macro-economic issues and the terrorist attacks may impact the company's ability to manage market risks.
  • Foreign Exchange: International operations constitute about one-fifth of segment operating profit. Weakness in currencies such as the British pound, Brazilian real, and Mexican peso negatively impacted reported sales and profit growth.
  • Accounting Changes: The company is assessing the impact of new standards (SFAS 141 and 142) regarding business combinations and goodwill, effective in 2002.

Investor Verification Checklist

• Merger Accounting: Verify the "pooling-of-interests" treatment and the restatement of 2000 comparables to ensure accurate year-over-year analysis.
• Comparable Metrics: Focus on "Comparable" operating profit and net income figures, which exclude the $235 million in merger costs and other restructuring charges, to assess core operational performance.
• Cash Flow Utilization: Review the significant outflow in investing activities ($2.75 billion) driven by short-term investment purchases and the SoBe acquisition.
• Post-Quarter Activity: Confirm the impact of the $1.7 billion share repurchase program initiated after the reporting period ended.
• Segment Performance: Analyze the specific contribution of the SoBe acquisition to the Beverages segment and the impact of currency devaluation on International segments.