coca cola amatil: a tale of two stories, page-78

"What's your view on CCL at the moment - is it overpriced? Would you anticipate a further drop to $6 or $7 over the coming months?

Do you think management are capable of turning the company around by improving certain metrics and employing new cost saving and growth strategies?"


MT,

The best way to discuss whether or not stocks are over- or undervalued is to look at appropriate valuation multiples.

In CCL’s case, the following FY15 multiples apply:

Capital Structure
Market Cap = $7.2bn
Net Debt = $1.6bn

• => EV = $8.8bn

FY15 Forecasts
EBITDA = $950m
NPAT = $400m (representing ~5% growth on FY14)
DPS = 45cps

Valuation-wise, those inputs imply the following valuation multiples:
P/E = 17.8x
EV/EBITDA = 9.3x
DY = 4.8%
FCF Yield of 5.1% (on EV) and 6.1% (on Market Cap)

So the stock presently trades at a premium-to-market (by maybe 10% or 15%) on both P/E and EV/EBITDA, which might be reasonable, but is probably a bit generous given the relatively modest bottom-line profit growth expected for CCL (which is probably the same expectation for the broader market, i.e., organic earnings growth is hard to come by, and most of it is coming from “self-help” initiatives within individual companies through activities such as cost reductions, restructurings and asset rationalisation)

However, on “income” style metrics, namely FCF yield and DY, CCL is priced roughly in line with the broader universe of large cap stocks.

Now, what that tells me is that the stock is being viewed currently as a fixed income proxy that is ex-growth.

Which means you have two forces pulling in opposite direction as the share price moves meaningfully in either direction: “growth”-style investors will be sellers as it moves higher and “income” style investors will be buyers if it moves lower.

Which - and I know this might sound like a low conviction fence-sitting - means that the stock looks to be priced accurately by the market at its current price level, and is probably bound in a range for some time.


Of course - and this is the big caveat - all of this discussion so far assumes no major turnaround in the fortunes of the business which might restore some sort of a growth trajectory.

If management can somehow breathe fresh life into the growth of the business then the modest premium-to-market at which the stock currently trades could well expand, leading to the double-whammy benefit on the share price of a higher valuation multiple (P/E) on a bigger E.


Which gets back to your question about whether the new management team are indeed capable of "turning the company around by improving certain metrics and employing new cost savings and growth strategies."

The short answer is that I don’t know. This is a mature business with evidence of product obsolescence underway (not instantaneous, but in slow-motion, over a period of years)

It is also somewhat complex from a supply-chain point of view, as well as from a market position standpoint.

What I do observe are some headwinds in train in CCL’s customers’ space, which leaves CCL with limited wiggle room, given the company’s customers, themselves have limited wiggle room, too!

So, I’m sorry, I can’t add much value here.

But what I can say is that the stock is not priced for any dramatic re-invention of the business which, were it to occur, could see earnings 10% to 15% higher than currently expected and the P/E multiple revert back to the near-20x that it held historically while the company was viewed as growth stock.

The maths on this outcome is relatively straightforward: 10% to 15% higher “E” combined with 10% to 15% higher P/E translates into 20% to 30% higher share price.

But don't hold your breath for that scenario.


Finally, in terms of you question about whether the stock price could fall to $7.00 and below, here I do have a strong view, and the view is: No, it can’t/won’t.

Here’s why:

At $7.00/share, and on current forecasts, that would put the stock on the following valuation metrics:

P/E = 13.3x
EV/EBITDA = 7.6x
DY = 6.4%
FCF Yield of 6.8% (on EV) and 8.5% (on Market Cap)


On P/E and EV/EBITDA, that would leave the stock at a significant discount to the broader market, and the value investors would have been buying in long before it got to that.

Similarly, for income investors, the stock would start being bought up well before the DY reached 6.4% and the FCF yield hit 8.5%.

Put another way, if CCL got to $7.00 per share, the world would have to be in pretty catastrophic state and we would probably have plenty of other far more serious things with which to concern ourselves!