PepsiCo (PEP) is Yacktman’s largest holding at 9.4% of the portfolio. PEP reported Q1 earnings last week. Sales were up 4% y-o-y, exhibiting a favorable pricing mix but EPS was down 7% y-o-y due to rising commodity costs. The international business is growing very nicely, particularly in emerging markets—13% growth in Brazil, 21% growth in India, and 33% growth in Saudi Arabia. In the emerging markets space, we highlight PEP’s strategic alliance with Tingyi-Asahi Beverages, which was finalized late last month. We continue to share Yacktman’s enthusiasm for PEP as a long-term investment and expect the company to return $6 billion to shareholders in 2012, including share repurchases of $3 billion and dividends of $3.3 billion. PEP raised it dividend to 4% annually in February and has the financial strength to increase it in the future. We find the company relatively cheap with future income potential. Value investors Boykin Curry and Bill Miller had large positions in PepsiCo at the end of last year too (see Bill Miller’s latest stock picks).
News Corp (NWS) comprises 8.1% of the portfolio and is also held by Seth Klarman, Chris Hohn, and John Armitage. We think that NWS is a compelling value investment. Its organic growth rates and future prospects exceed its competitors and the stock trades at less than 60% of its total asset value. Management has renewed a share repurchase plan, showing commitment to returning capital to shareholders. Most importantly, we see the company’s move to shake up its revenue mix as an opportunity for multiple expansion. Ten years ago 42% of its operating income came from the print business and only 11% from the cable networks business. NWS has done a one eighty and today, print contributes 12% of operating income while cable networks contributes 58%. Do not forget to throw in TV, which we identify as a growth business for NWS. Given low valuation (CY12 EV/EBITDA of 5.4x versus comparable companies of 7.6x), share buybacks, and growth prospects, we are very positive on the stock.
Procter & Gamble (PG) is the fund’s third largest position comprising 7.1%. PG also reported earnings last week. Its Q3 presented some concerning data, especially regarding outlook. PG reported EPS of $0.94, which was on the high end of previous guidance ($0.89 to $0.95). Management lowered guidance for Q4 by 14% from $0.95 to $0.99 down to $0.79 to $0.85. The company now expects to deliver FY12 core EPS of $3.82-3.88 versus their prior guidance of $3.93 to $4.03. They are projecting organic sales growth of 4%, which we think is a bit high given the 3% figure they saw in Q3. The growth was primarily driven by pricing with flat volumes and negative mix. PG has been facing challenges with regard to slowing growth in developed markets and negative mix from its expansion into emerging markets with lower-tier product categories. Therefore, we are not quite as bullish as Yacktman, who commented that “the combination of predictability, quality, and valuation of companies like Procter & Gamble…is especially important in a time when we perceive many significant risks in the world.” Billionaires Ken Fisher, David E. Shaw, and Ken Griffin had large positions in Procter & Gamble (see Ken Fisher’s stock picks).
Microsoft (MSFT) comprises 4.9% of the portfolio. This is a big year for new product releases for MSFT. Windows 8, Server 8, and Office 15 will be released. We believe that if all goes smoothly with the Windows 8 release, this will be long-term investors’ confidence. We do think that the current product portfolio remains competitive, especially the Window franchise and offers expansion opportunities into the enterprise space but note that the entertainment revenues missed expectations, the underperformance of which was glossed over given strong performance in other divisions. Nonetheless, MSFT’s real strength lies in its cash flow. Last quarter, it reported free cash flow of $8.8 billion, repurchased $1 billion of stock. We will be closely following consumer reactions and initial sales of the new products. Billionaire David Einhorn is very bullish about Microsoft. He laid out his investment thesis at last year’s Ira Sohn Conference (read Einhorn’s entire speech).
Cisco (CSCO) rounds out the top five picks at 4.4%. While we think that the US Enterprise and Small to Medium Sized Businesses’ (~40% of CSCO’s revenue) demand for networking equipment has been improving, we do not find it to be a compelling investment given lack of catalysts on the horizon. The company will probably be able to take some market share from Juniper and will benefit from the 10GbE switching upgrade cycle, but we believe the market has priced much of that in. Ultimately, the preference is to own CSCO when it sees orders growing markedly faster than revenues, but we expect orders and revenues to grow at comparable rates in the coming quarters. Partner Fund Management and Edinburgh Partners are the two most bullish hedge funds about Cisco.
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