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The Cola-Chip Wars
Daily commentary updated for April 18, 1997
The market is showing a strong preference for big brand name consumer stocks. At the same time,
technology stocks across the board are getting slammed. A recent interesting comparison was when
Intel and Coke announced their earnings on the same day.
14% Growth Has a Higher P/E than 120%
On Monday, Intel (INTC) reported what can only be interpreted as a blowout report. Profits rose
116% and revenue 39% on a year over year basis. The next day, Intel stock fell 4 points. The
trailing four quarters p/e on Intel is now 19. That same day, Coke (KO) reported earnings up 14%,
but revenue fell 2%. Granted, part of the that was due to the sale of a unit. But the dollar was also a
major factor, and unit volume sales have been slow for a while. The stock jumped 2 points that day,
and is now selling at a trailing p/e of 41.
Cola Beats Chips
Coke is a superb company, and while we feel the stock is fully valued, it is not our intent here to
denigrate the stock. What is worth reflecting on is that Coke trades at 41 times earnings, more than
twice the recent rate of growth in profits. Meanwhile, Intel, a company that is also managed superbly
and is in the same league in terms of brand name, trades at 15 times earnings. That is hardly worth
comparing to its 120% earnings growth rate in the latest quarter. Intel's future profit growth may very
well keep pace with Coke's, yet Intel trades at less than half the multiple of Coke.
The math on this is interesting. Intel's earnings yield (the converse of the p/e) is 5.2%, and Coke's is
2.4%. If Intel manages to post even decent earnings growth the next several years, its p/e will prove
cheap. Meanwhile, Coke has to increase its profit growth to justify its lofty valuation. For example, if
Coke manages to achieve 17% profit growth for 10 years, its earnings yield (based on the current
stock price) will reach 11.5%. If Intel achieves 10% average growth over that period, its earnings
yield will be 13.5% Even with significantly lower profit growth over the next decade
compared to Coke, Intel will still have a higher earnings yield.
Closing the Valuation Gap
There are some understandable reasons for the differences in valuation. Intel admittedly faces
constant downward price pressures and competition, and Coke's future seems fairly stable. Still, we
believe the Intel will continue to grow profits, and Coke's recent revenue slowdown may persist.
Coke is a world class brand name, but Intel is not far behind. Yet, for now, the market prefers the
number one soft drink company over the number one chip company by more than a 2 - 1 margin, at
least in terms of valuing their current profits. Coke's p/e will probably remain higher than Intel's
in the years to come, but the current variance strikes us as rather large. |
