Holding dividend-paying stocks in your portfolio has appeal. That's because they can provide reliable income streams. But investing in high-quality dividend stocks takes some work. While the S&P 500 index's 19% gain in the last year may have you concerned that you've missed out, not all index members have enjoyed such a high return.
PepsiCo's (NASDAQ: PEP) shares have dropped 6% during this span. However, the stock has strong appeal, particularly for dividend-seeking investors. Here's why you should consider the stock now.
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Strong brands will carry the day
PepsiCo has struggled with selling more goods, and the market has not been pleased. In fact, it has been selling less, relying on price increases to grow revenue. During the first half of the year, PepsiCo's adjusted sales, which removes foreign currency translation effects, grew 2%. But volume fell 2%, with price increases responsible for the balance.
However, with people feeling the impact of higher prices across the board, PepsiCo isn't alone in feeling the effects from pinched consumers. Others, such as McDonald's, reported that traffic was hurt by value-conscious customers.
Despite these challenges, management expects 2024 sales to grow 4% and earnings per share to increase 8% or better. Naturally, there are limits to raising prices to boost the top line. But I believe the company's challenges in growing volume will prove only temporary.
That's because it has a powerful group of popular beverage and snack brands. These include its namesake, Gatorade, Mountain Dew, Quaker, and Doritos.
A Dividend King
These products tend to have steady demand no matter what's going on with the economy. The business has proven so stable that the board of directors has increased dividends for 52 straight years, including a 7% hike earlier this year. That makes PepsiCo a Dividend King, an elite group of companies that have raised payouts annually for at least half a century.
Currently, the stock offers a 3% dividend yield, more than double the S&P 500's 1.4%. While that's an important indicator for dividend-seeking investors, you can't choose stocks based solely on this basis since a high dividend yield may not mean much if a company cuts the payout.
Fortunately, PepsiCo, besides its willingness to pay dividends, has the wherewithal to pay them. It generates plenty of free cash flow (FCF) to support the payments. Its 2023 FCF was $7.9 billion compared to $6.7 billion in dividends.
Better valuation
The stock's pullback has created a better valuation for the company. PepsiCo's shares sell at a price-to-earnings (P/E) ratio of 26, down from more than 32 at the start of 2024. During this span, the market's valuation has become richer. The S&P 500 has a P/E multiple of 28 versus 23 when the year began. Looking back over five years, PepsiCo's stock valuation has varied. But the median P/E is 27, above its current level.
It's always prudent to investigate a company before purchasing its stock. And that's especially true when its shares have declined when the market has gained. But PepsiCo, with its strong stable of products, cash flow generation, and better valuation, seems like a good choice for patient investors.
I'm confident that the shares will rebound as consumer spending picks up down the line. Until then, you get to enjoy its relatively high dividend payouts while waiting for increased sales volume that will likely drive a rebound in the stock price.
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Lawrence Rothman, CFA has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
