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Coca-Cola: Do Potential Catalysts Justify Steep Valuation?
Stock Analysis & Ideas

Coca-Cola: Do Potential Catalysts Justify Steep Valuation?

Coca-Cola (KO) is a core holding that the great Warren Buffett will probably never sell, at least not anytime soon. While Coca-Cola, the beverage maker we all know and love, seems to be lacking in growth prospects, there are some levers that management can pull, as the stock continues its climb back towards its pre-pandemic highs.

In such a turbulent market, Coca-Cola is a great place to hide, with its 0.66 beta and bountiful 3% dividend yield, both of which help soften the blow of any volatility. Still, the stock is anything but cheap at 27.8 times trailing earnings. (See Analysts’ Top Stocks on TipRanks)

Despite the eventful and boring nature of Coca-Cola, especially versus its more diversified peers in the consumer-packaged goods space, the company may very well warrant its lofty price tag. With compelling reopening catalysts that could present themselves over the next 18 months, KO may not be nearly as boring as most think.

Despite this, the valuation still leaves a lot to be desired. For that reason, I am neutral on the name, but wouldn’t be against buying at these levels for those keen on a rock-solid defensive.

Coca-Cola: 2021 Has Been a Rocky Road

There hasn’t been much for Coca-Cola shareholders to truly get excited about. The COVID crisis has curbed the appetite for Coca-Cola, with many Coke-serving restaurants shuttered during the worst of last year’s lockdowns. As the pandemic goes endemic and as the restaurant scene returns to normal, Coca-Cola should be able to pick up where it left off.

Undoubtedly, an increase in health consciousness can be viewed as a long-term secular headwind facing Soccer star Cristiano Rinaldo sent shares tumbling earlier this year as he pushed a Coke aside at a press conference, instead opting to reach for a bottle of water.

If such a simple action can send shares south, is it a good idea to punch your ticket in the first place?

The Coca-Cola brand is powerful, and it can hold strong, even if health consciousness takes it to the next level. Undoubtedly, water is healthier than Coca-Cola, but in terms of utility, Coke would likely win out for your average consumer as opposed to your average professional athlete.

Indeed, Coca-Cola and Coke is synonymous with cola, or even soda. That’s why Buffett loves the company to this day, despite the challenges it faces.

Coca-Cola has a brand so powerful and a moat so wide that one doesn’t need to give a second thought to new entrants challenging on price. In essence, Coke has a sky-high moat surrounding its margins. Still, growth has been hard to come by, making the name less appealing to investors looking for more than just a bond proxy.

Plenty of Growth Levers

Fortunately, the company has made incredible moves to diversify away from Coke, syrups, and other sugary beverages. Pepsi (PEP) has been done a magnificent job of diversifying away from its flagship product, and Coca-Cola could follow in its footsteps as it explores new frontiers to refuel its growth.

Speaking of refuel, Coca-Cola has room to make a deeper dive into energy or sports drinks. In terms of energy drinks, the company has had mixed success, with Coca-Cola Energy being pulled from North American shelves just over a year after its launch.

Don’t think that Coca-Cola is throwing in the towel on the energy drink industry, though. It’s back to the drawing board. Perhaps the company could acquire a well-established energy drink player, as Pepsi did with Rockstar Energy?

It’s not just energy and sports drinks that could take KO stock to the next level. Cannabis-infused beverages, hard sodas and lactose-free milk are innovative beverage frontiers that could have enormous long-term potential for Coca-Cola.

Wall Street’s Take

According to TipRanks’ analyst rating consensus, KO stock comes in as a Moderate Buy. Out of seven analyst ratings, there are four Buy recommendations, and three Hold recommendations.

The average Coca-Cola price target is $61.29. Analyst price targets range from a low of $55 per share, to a high of $65 per share.

Bottom Line

If Coca-Cola can find a product that sticks within certain industries, it can build its moat and keep competitors at bay, as it did for sugary sodas.

In the meantime, a continued reopening of the economy should support the rally in KO shares. If Coca-Cola is to offset longer-term secular headwinds, it needs to explore new growth frontiers. Fortunately, management is already doing so, and for that reason, KO may be less boring than most conservative investors make it out to be.

Disclosure: Joey Frenette doesn’t own shares of any mentioned companies at the time of publication.

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