The Business Of
Fast Food | PepsiCo | Summary
Morning All!
TGIF! Hopefully exams have gone well and everyone’s got nice weekend plans! But before we get there, we’ve got one final newsletter to round off The Business Of PepsiCo and also The Business of Fast Food! Let’s have a quick recap of some of the fun, surprising things we’ve learnt about PepsiCo this week…
How Do They Make Money - PepsiCo doesn’t = Pepsi. Pepsi makes up less than 30% of PepsiCo revenues!
What Are Their Margins - Pepsi and Doritos are positioned at nice spots in the supermarket because PepsiCo pay for this shelf ‘real estate’.
What Do They Do With Their Profits - PepsiCo’s latest manufacturing plant in the US is bigger than the biggest warehouse in the UK!
So, I want to do something a bit different today. Instead of going through an outlook for PepsiCo. I want to do a little recap on the fast food industry, because it’s the last day of this series! And there’s lots of great insights we realise when we analyse McDonald’s, PepsiCo and Huel Coca-Cola together. Huel’s not public! But first…
New Series Alert - How Do I Become
I have some exciting news. We’re starting a new series called ‘How Do I Become’! Over the last 3 months I've had the pleasure of chatting to students about career paths. And I realised that even for those with a clear career goal in mind. It's not that easy working out which path to take to get there! Like, if a student wanted to become the CFO of Apple or CEO of Man United - how on Earth would they get there?!
Well, that's what 'How Do I Become' will hopefully help with! I’ll be chatting to current and former CEOs, CFOs, Chiefs of Staff, of massive organisations. And asking them - what were the main priorities in their roles? How could a uni student/recent graduate get to their position? What technical/personal skills should students prioritise? Plus, a couple of other cool questions!
So, today we have two incredibly exciting videos to kick off the series:
How Do I Become: Chief of Staff @ Microsoft (with Leigh Felton)
How Do I Become: CFO @ Xbox (with Kevin McCarthy)
I think both these conversations will be so useful for all the ambitious students/grads out there. And for any AI fans, Leigh worked extensively at Microsoft on their Responsible AI policies back in 2017. And we chat through that!
I’ll be sending an email out with both video links this afternoon. But without further ado, let’s dive back into Fast Food!
What’s The Point Of All Of This Again?
Okay so, over the last couple of weeks. We’ve broken down the business models of McDonald’s, Huel and PepsiCo. And we’ve seen these companies make big decisions. McDonald’s choosing to franchise more. Huel choosing to spend a lot on Facebook Ads. PepsiCo choosing to sell Pizza Hut and KFC. But I have a question - who really cares?!
Why does it matter what decisions these companies make? Well, the reason is because a company’s management and board of directors have a duty. A duty to run the company in the best interests of shareholders.
And one of the most important things shareholders are looking for. Probably the most important thing. Is getting a return on their investment! So, all those decisions we’ve seen McDonald’s and PepsiCo make - the idea behind them was to increase the company’s profits. Which in turns boosts the shares! And keeps shareholders happy. So, let’s look at which companies have been pleasing shareholders the most!
Let’s start with the fizzy drink rivals. PepsiCo and Coca-Cola. Below we can see how the shares of both companies have performed since 2006. And we compare that with the S&P500 index.
Now, this chart includes the impact of dividends. So, it’s showing the total return an investor would get investing in PepsiCo, Coca-Cola and the S&P500 index. And some of you may be thinking - well, that’s pretty disappointing! And you’d be right! A person who invested $100 in PepsiCo shares in 2006 would have $467 now. If they’d invested in Coca-Cola shares, they’d have $456 now. But if they’d just invested in the S&P500 they’d have £481!
But why is that disappointing? Well, because shareholders in companies are looking for outperformance. They’re looking for their investments to beat the market. And management of public companies are aware of this. In annual reports, management note how their company’s shares have performed vs the wider stock market. Below is a screenshot from PepsiCo’s annual report. Where management are showing how PepsiCo’s shares have performed vs the S&P500 over a 5 year period…
I’m Lovin’ It
Okay, so let’s now throw McDonald’s and Yum! Brands (owners of Pizza Hut and KFC) into the mix. How have their shares performed vs the S&P500? Well, the answer is pretty nicely! You can see in the chart below that McDonald’s and Yum! Brands shareholders have made much more money from their investments since 2006!
And whilst I think that chart is super interesting. Let’s go one step further and ask ourselves - why? Why have the shares of McDonald’s and Yum! Brands done so much better? I mean, all 4 companies are in the fast food industry. They all have franchising in their business model. They’re all absolutely massive companies. So, what’s going on?
Well, as always, the best place to start is the numbers!
Revenues Really Aren’t Enough!
Okay, so let’s start with a revenue comparison over the 2006-2023 time period. The table below shows us that the two fast food restaurants - McDonald’s and Yum! Brands - did FAR WORSE than PepsiCo and Coca-Cola! McDonald’s revenues only went up 11% over that 16 year period. (To remember why, check out this newsletter). And Yum! Brands’ revenue went down 28%!
Now, some of you may have expected different. Surely the companies who have seen the strongest share price performance will have seen the strongest revenue increases? Well, after 13 weeks of The Business Of, I hope it’s very clear for everyone by now. But this adds even more proof - that revenues don’t tell you anywhere near enough about how a company is doing!
We need to look at profits! Okay, so let’s now include EBIT into our table. And we can see that the share performances start to make a little more sense. McDonald’s EBIT increased by 111% - the most - over the period. And the other 3 were all fairly similar. With EBIT increasing between 73-77%.
Okay, so McDonald’s profit has grown the most over the period. And you might think - oh great, so that’s why their shares have done the best. But hold your horses - because that’s not QUITE right.
Because look at Yum! Brands. We saw their shares have performed much better than PepsiCo’s and Coca-Cola’s since 2006. But their EBIT growth is about the same as those companies. So, what are we missing? Well, why don’t we add margin into the picture! And the table below does just that. And this is where the changing fortunes of the 4 companies becomes more apparent!
We can see that whilst McDonald’s EBIT margin has increased by a massive 19% from 21% to 40%. And Yum! Brands have increased their margin from 13% to 31%. PepsiCo and Coca-Cola have seen their margins stay flat or fall. And the reason this is so crucial. And the reason I bang on about margins. Is because margins really give us a picture of how profitable, healthy and valuable a company is.
Coca-Cola’s EBIT increased by 73%. But they didn’t get any more efficient at turning their revenue into profits. $100 of revenue became $26 profit in 2006. And $100 revenue became $25 in 2022. However, for Yum! Brands, although EBIT increased the same amount - 73%. They got so much more efficient! $100 of revenue became $13 profit in 2006. But $100 revenue in 2022 became $32! Big difference!
ROCE - What’s ROCE?!
Okay, so just to wrap up, I’m going to introduce a metric we haven’t seen yet on The Business Of. And that metric is ROCE - Return on Capital Employed. And what this metric tells us is - not only how profitable a company is. But how efficient they’ve been with their capital.
With EBIT margin, it tells us how profitable a company is. But it doesn’t tell us if a company is needing to invest a lot in capex to achieve that profitability. And we know more capex means less free cash flow (FCF). Which investors are super focused on. In fact, many investors believe ROCE is the single most important metric to look at when evaluating a stock. Because it brings FCF into play. So, it begs the question - why is this the first time I’m bringing up ROCE?! In TBO’s 14th week!
Well, one - I don’t want to overcomplicate things! And bring in all the metrics at once. But two, it’s because EBIT margin can usually tell us enough. Not everything, but enough. The table below shows us what ROCE was for our 4 companies in 2006 vs 2023…
And this shouldn’t surprise us. McDonald’s and Yum! Brands have been making their business models increasingly capital-light. They’re franchising more. They’re running less and less restaurants. They’re having to buy less machinery and do less construction. Do less capital-intensive stuff - which means less capex and more FCF! Whereas Pepsi… they’re going the opposite way as we’ve seen this week.
They bought their franchising partners. And made them a part of their operations. Now they’re having to take on more of the machinery. And this makes their business more capital intensive. But if we just looked at the table above, we’d think Yum! Brands’s shares would have performed the best! Their ROCE has grown well ahead of McDonald’s! But as we know, McDonald’s shares have performed better. So, I think a final takeaway is - EBIT margin and ROCE - both are important for shares!
16th Jun 2023
And That’s A Wrap!
So that brings us to the end of The Business Of Fast Food: Part 3. We hope you enjoyed understanding The Business Of PepsiCo this week. To go back and read any of the previous newsletters from Monday-Thursday, you can find them here. You can also find newsletters for Tesco, Deliveroo, Man United, Ninety One, LVMH, Cineworld, Netflix, Disney, Nvidia, TSMC, ASML, McDonald’s and Huel there too!
But it’s not quiteee the end because I’m going to be sending out the ‘How Will I Become’ videos shortly! Next week, we’ll be taking our scheduled week off! So you don’t get sick of us aha! And so we can build up our content and take a little time out.
But we’re back next, next Monday (26th June) with a brand new series: The Business Of Drugs. And I’m super excited for this one. Because of the top 40 most valuable companies in the world - 9 of them are in the US healthcare industry!
A lot to look forward to. Have a cracking day… and weekend! And best of luck with exams!
The Business Of Team