Coca-Cola Will Continue Prioritizing Dividend Despite Weakness in Away-From-Home Channels
Earlier this year, Coca-Cola (KO) announced its 58th consecutive annual dividend increase. When the company reported earnings on April 21, management reaffirmed their commitment to the dividend:
We will of course continue to focus on protecting the progress we made on working capital and free cash flow in 2019. And in this context, our capital allocation priorities remain very much focused on investing wisely to support our business operations and continuing to prioritize our dividend. Specifically with regard to the dividend, we currently have no intentions to change our approach.
While many consumer staples businesses have seen a surge in demand due to pantry loading, Coca-Cola's outlook is more tempered due to its diversified reach into many different markets worldwide (over 60% of revenue is generated outside North America).
About half of the company's business is generated by away-from-home channels such as restaurants, convenience stores, movie theaters, and sports arenas.
With many of these businesses temporarily closed, Coca-Cola has seen its April month-to-date volumes fall globally by about 25%. For context, through February the company's total beverage volumes were up 3% (excluding China).
Management expects the second quarter to be the most severely impacted one of this year. Coca-Cola believes social distancing measures will persist into the third quarter, so it will take time for some of these channels to bounce back.
However, trends in China suggest the environment will eventually improve, hopefully within a couple of months:
And you can see China, we were doing great in January. We had a fantastic start to the year, double-digit growth. It was a very profound lockdown in February, much deeper than the minus 25% we're currently seeing globally, and we started to build back up from week-to-week in March.
And we're kind of getting close towards neutral in China now...However, the consumption is still lower than prior year and we expect the full recovery to take time especially as there are still limits on crowd sizes.
Until then, the company will continue positioning itself for a potential "step change" in some ongoing trends like e-commerce as contagion fears bring more purchasing activity online.
Coca-Cola generates a "single-digit" percentage of its business from e-commerce but said it has experienced an upsurge in online sales across the globe with the growth rate of the channel doubling in many countries.
Management also anticipates a change in short-term consumer behavior given the extremely uncertain economic outlook. Specifically, Coke believes this will drive "a very profound theme of affordability."
The company is adapting to this environment in several ways.
First, Coca-Cola is focusing more on its core sparkling brands, which have greater consumer appeal and higher margins. (Analysts were surprised by how resilient the firm's gross margin was in the first quarter.)
Management is also pivoting towards affordability by introducing smaller package sizes, refillable bottles, and multipack promotions to ensure its products meet the needs of its customers.
Coupled with reduced marketing spending, a pause in all non-essential expenses, no planned share repurchases, and no intentions for material M&A, Coca-Cola has taken swift actions to protect its cash flow and balance sheet.
Management said there are no concerns with liquidity, citing strong demand for Coca-Cola's $5 billion debt offering in March, plus its $9 billion in untapped backup lines of credit and $3 billion in committed bank loans which remain available.
Looking further out, Coca-Cola expects the trend toward pricier, healthier beverages to persist, albeit at a potentially slower rate, according to the Wall Street Journal.
Based on what we know today, we expect Coca-Cola's core competitive advantages to remain intact.
Besides its well-known brands (including 21 billion-dollar brands), the company owns the largest distribution and logistics chain in the industry, giving it dominant shelf positions in over 24 million retail outlets worldwide.
E-commerce and affordability themes could moderately dilute some of those advantages if the virus impacts behavior for much longer than expected.
However, Coca-Cola is already adapting its portfolio to better align with these trends, and it's hard to imagine a world where most beverages are purchased online (which would make distribution easier for upstart brands).
No one knows when the world will return to normal, or what normal will look like. But we expect Coca-Cola to remain a force for years to come and plan to continue holding our shares in our Conservative Retirees portfolio.
"While there are still many unknowns ahead, we do know that over 134 years of business we've seen many types of crises, be they military, economic, or pandemic, and the Coca-Cola Company has always emerged stronger in the end." – CEO James Quincey
