F Wall Street: Joe Ponzio's No-Nonsense Approach to Value Investing For the Rest of Us by Joe Ponzio

Author:Joe Ponzio [Ponzio, Joe]
Language: eng
Format: epub
Tags: Non-Fiction
Publisher: F+W Media
Published: 2009-05-17T18:30:00+00:00

Coca-Cola, Cash Yield versus T-Bond, 1992–2008

Was an investment in Coca-Cola warranted? Not according to the cash yield. When comparing the two investments (Coca-Cola and the T-Bond), the T-Bond was the clear winner for more than a decade. It wasn’t until early in 2005 that Coca-Cola became an attractive buy.

With a cash yield of 5.7 percent versus the T-Bond at 4.3 percent, the markets would have been offering you a 30 percent margin of safety on your investment—a fair margin on such a large, stable company. From a January 2005 purchase to the end of 2007, you would have earned 14 percent a year, on average—or, 17.5 percent with dividends reinvested.

Based solely on the cash yield method, Coca-Cola would not have been a very attractive investment from 1992 to 2005. Although you would have earned an average annual return of more than 8 percent on your investment in Coca-Cola during that time—more than if you left your money in cash—you would have been better off finding other opportunities during those thirteen years—opportunities that were offering safety and a more satisfactory return.

If your goal was to earn an average annual return of 10 percent, you would have been sorely disappointed as a 1992 purchaser of Coca-Cola.

THE BUY-AND-HOLD VALUATION

The cash yield tells us that Coca-Cola may have been overpriced in the mid- to late-1990s and early 2000s, but that a buying opportunity may have presented itself in 2005 or so. Let’s see if that is true using the buy-and-hold valuation.

Again using a 9 percent discount rate, we’ll assume that Coca-Cola would grow at 20 percent initially—somewhat less than its CROIC of 24 percent during those sixteen years—and that growth would increase less and less each year, from 20 percent initially to 13 percent in year ten, ultimately slowing to 5 percent in years eleven through twenty. Starting in 1992, we would have projected 1993 owner earnings to be 20 percent higher than 1992’s $1.18 billion. Similarly, we would expect 1994’s owner earnings to be roughly 19 percent (95 percent of 20 percent) higher than those of 1993, or $1.68 billion. And so on through 2012.

You may be thinking, “Growth at 20 percent? Not Coca-Cola! It’s too big!” That’s why we scale down the growth over time. Still, Coca-Cola averaged $1.5 billion of owner earnings in 1992 and 1993, and generated an average of $3.6 billion in 1996 and 1997. Its ability to generate cash continued to grow, from $1.18 billion in 1992 to $6.3 billion in 2007—at an actual rate of 11.8 percent versus our 1992 projection of 12.2 percent (taking into account early growth at 20 percent, then scaled down) during that time. Thus, we were not too far off.

So, starting in 1992, Coca-Cola reports shareholder equity of $3.9 billion. Using our above assumptions, we find that the present value of the future cash we think the business could generate is $35.9 billion. Adding the two together, we get an intrinsic value for Coca-Cola of roughly $39.8 billion.

During that year, Coca-Cola’s market capitalization was between $47.

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