Pepsi Company can pay current liabilities as compared to Coca-Cola. The current ratio measures the company’s ability to meet its short term maturing obligation to its creditors or suppliers and it is used to measure the level of company solvency; a current ratio of more than one represents a margin of safety for the creditors or suppliers, where the higher the ratio the more liquid the firm is and thus, the more confident the creditors will be with a given company (Microstrategy.com, 2011).
Since Pepsi Company has the highest current ratio it is, therefore, able to pay its current liabilities much more than the Coca-Cola Company. Pepsi Company’s current ratio has been reported to have increased in the year 2009 by 17% as compared to the year 2008 and notably, Pepsi Company could cover its current liabilities 1.44 times compared to Coca Cola of 1.13 times in 2009 (Microstrategy.com, 2011).
On the other hand, the profitability ratio measures the management effectiveness as shown by the turnover generated from sales and investment (GoldmanSachs.com, 2011). This means that, if a firm can be able to make a profit it can also be able to meet its short term obligations and also be able to pay dividends to its owners while the major ratios in this category include the net profit margin, gross profit margin, return on capital employed, operating profit margin, and operating expenses ratio (GoldmanSachs.com, 2011).
The profitability of sales shows the management’s ability to control production and financing costs while profitability about investment measures the efficiency with which a firm uses its funds or capital or investment to generate returns to the providers of such funds. In this regard, Coca-Cola Company had the lowest return on assets ratio compared to Pepsi Company which has 15% in 2009 (GoldmanSachs.com, 2011).
In addition to this, Pepsi Company had the least Return on Equity compared to Coca Cola Company in the year 2009 which means that Coca Cola Company was very efficient in using the owners supplied funds to generate a return to the equity or common shareholders while Pepsi Company was efficient in using the owners’ assets to generate returns to the providers of the funds (Meir, 2008).
Furthermore, the cash flow indicator ratio and investment valuation ratio is the best financial ratios to determine the company that has the most satisfied shareholders and these particular ratios are used to evaluate the performance of the firm. Mostly, they are used to determine the firm’s dividends policy and the effect of a proposed financing option on the company and also to predict the effect of a right issue (Meir, 2008). Alternatively, they are also used to determine whether securities are overvalued or undervalued and investors can also use them to determine the theoretical value of the company securities (Meir, 2008).
A dividend payout ratio shows the proportion of earnings that are attributable to equity shareholders paid out in form of dividends (Microstrategy.com, 2011). In the years 2009 and 2008 Pepsi Company paid 46.31% and 50.14% to shareholders in form of dividends and retained 53.69% and 49.86% respectively while Coca Company paid 20.66% and (3.14%) in form of dividends and retained 79.34% and 103.14% in 2009 and 2008 (Cce.com, 2011).
The amount retained in the firm is referred to as the retained earnings and is usually used by the firms as internal sources of finance (Microstrategy.com, 2011); the Coca Cola Company is paying less or no dividends to its shareholders to fund the growth or expansion of its market base while Pepsi Company is paying more dividends to its shareholders because it is in its maturity stage.
The price-earnings ratio indicates how much an investor is prepared to pay for the company shares given its current earnings per share (Microstrategy.com, 2011); it indicates the payback period that is the number of years the investor will take to recover his or her investment in shares of the company from the earnings generated by that particular share (Microstrategy.com, 2011).
In addition to this, it also shows the future performance of the company and the relative risk of the firm in the same risk which tends to have the same P/E ratio and therefore Pepsi Company’s investor would take 0.13 years and 0.15 years in 2009 and 2008 respectively, to recover their initial investment in the shares from the earnings generated by that investment in the firm (Pepsico.com, 2011).
On the other hand, Coca-Cola Company’s investors would take 12.56 years and 1.25 years in 2009 and 2008 respectively, to recoup their initial investment from the company’s earnings generated by their shareholding (Pepsico.com, 2011). Generally, Pepsi Company seems to be the best in terms of investment than Coca-Cola Company and this is precious because Pepsi has the least payback period compared to Coca-Cola Company.
List of guidelines to be followed by the investor when selecting between Coca Cola Company and Pepsi Company
Foremost, gather or collect information on both the company that is Pepsi Company and Coca Cola and If one does not have any financial or investment knowledge he can list some of the firms he want to entrust them with his money such as brokers and investment banks. From the list an individual can choose one financial institution.
Secondly, its important to develop a road map (policy statement); which is constructed by the investor alone or by the financial advisor. In most cases, this statements states the types of risk the investor is willing to take, goals and constraints and any decision should be based on this statement and it makes sure that the investment decisions are appropriate because investors needs change over time (Microstrategy.com, 2011).
An investor should actually focus on assessing the current and projecting economic, financial, political and social conditions and there after, an investor should try to study current financial and economic condition in order to forecast future trends of both Pepsi Company and Coca Cola Company. These financial market expectations and needs in the policy statement will determine the investment strategy (Microstrategy.com, 2011).
The investor can then implement this policy and he or she should focus on meeting the objectives at the minimum risk levels with the policy statement and financial market expectation as an input (GoldmanSachs.com, 2011). Additionally, he should also determine the future expected returns and weigh the risk return trade-off.
Regularly, the amount of return expected from the investment will depend on the way the investor intends to approach the market and one is either as speculator or an investor; a speculator will be a risk taker who intends to make profit from the market share price movement (capital gains) and therefore, he or she is a short-term “investor” (GoldmanSachs.com, 2011). On the other hand, an investor is risk averse as he only invest in a company shares to earn dividends thus he is a long term investor.
From the point of view of the leverage ratio or gearing ratio, Coca Cola Company is highly geared in both years (2009 and 2008) than Pepsi Company and this is because the debt ratio is more than 50%, which implies that Coca Cola Company is using 66.68% and 67.51% of debt in 2009 and 2008 respectively, when compared to the capital employed which is calculated as the long term debt plus shareholders’ equity (GoldmanSachs.com, 2011).
This means that, in 2009 and 2008 the Coca Cola Company used 33.32% and 32.49% of shareholders’ equity in its capital structure; made up of debt and equity. On the other hand, Pepsi Company has a gearing ratio of 34.26% and 40.63% of debt while it uses shareholders’ equity amounting to 65.74% and 59.37% (GoldmanSachs.com, 2011).
Leverage ratios measures the extent to which a firm uses the assets which have been financed by non-owners supplied funds and it measures the financial risk of the company; the higher the ratio, the higher the financial risk of the firm. There should be an appropriate mix of debt and equity finance in the company’s assets (Drake, 2009).
Implication of high gearing level
Debt financing is more risky from the point of view of the firm, where the firm has a legal obligation to pay interest to the debt holders irrespective of whether the company makes profit or not. If the company defaults on the payment of interest on time the creditors may sue the firm resulting to liquidation (Drake, 2009). A highly debt burdened firm will find it difficult to raise more funds since it will be viewed as risky by providers of funds that is if the equity base is thin the firm is less likely to receive funds from creditors (Drake, 2009).
Coca Cola Company is this case should be considered risky than Pepsi Company and any investor who is a risk averse should consider investing in Pepsi Company as it gives more dividends than Coca Cola Company while a risk taker such as a speculator should opt for Coca Cola Company as the higher the risk taken the higher the returns in terms of capital gains.
Risk is the single non-financial data which the investor should consider when deciding on whether to invest in particular company or not. All financial institutions operations are open to the element of risk and the institutions aim at achieving a risk- return trade-off (Bessis, 2010). Where the risk can be minimized through carefully identifying risk that the firm is exposed to, quantifying and measuring the risk is done using the right tools to manage the exposure. For instance, a firm can be exposed to risk such as market risk, operational risk and credit risk (Bessis, 2010) and thus the investor should be able to identify the company’s risk exposure before deciding on the company to put their money in.
Bessis, J. (2010). Risk Management in banking. 3rd ed. Chichester: Wiley press Cce.com (2011). Annual Reports. Web.
Drake, P. (2009). Financial ratio analysis. Web.
GoldmanSachs.com. (2011). BRICs. Web.
Meir, L. (2008). Financial ratio analysis. Web.
Microstrategy.com. (2011). Financial Analysis. Web.
Pepsico.com (2011) Annual Reports. Web.
Table 1: Ratios
|Pepsi Company||Coca Cola|
|Current assets/Current liabilities||1.44||1.23||1.13||0.90|
|Return on Assets|
|Net profit after tax / Total Assets||15.00%||14.35%||4.45%||-28.19%|
|Return on equity|
|Profit after tax less preference dividends if any / Equity* 100||34.27%||41.04%||82.88%||48822%|
|Long term debt / capital employed* 100||34.26%||40.63%||66.68%||67.51%|
|Operating performance ratio|
|Fixed asset turnover ratio|
|Sales/Total fixed assets||1.58||1.72||1.92||1.98|
|Cash flow indicator ratio|
|Dividend payout ratio|
|common dividends / Earnings attributable to equity shareholders * 100||46.31%||50.14%||20.66%||-3.14%|
|Investment valuation ratio|
|Market value per share/ Earnings per share||0.13||0.15||12.56||-1.25|