Why I think growth investors shouldn’t bet on Coca-Cola Amatil Ltd shares

Credit: Bill Dan

Most Australian investors would be aware that Warren Buffett’s decision to begin investing in Coca-Cola in the late 1980s was one of the most defining and rewarding investment decisions he ever made.

The legendary investor continued to add to his position over the years and Buffett’s investment company, Berkshire Hathaway, now holds around 400 million shares of the company worth around US$18 billion.

Considering that Buffett himself has stated that he would never sell a share of the company, Australian investors could have been forgiven for putting their own hard earned dollars in the Australian arm of the beverage maker, Coca-Cola Amatil Ltd (ASX: CCL).

For a long period of time this looked like a pretty good idea.

In fact, prior to 2013, Coca-Cola Amatil shares performed quite well and virtually tracked the parent company’s share price higher. As the chart below demonstrates, however, things changed in 2013 when the Australian shares started to fall independently of the parent company.

Source: Google Finance

Source: Google Finance

This dislocation resulted from a number of issues that plagued Coca-Cola Amatil – ranging from price wars, new competition and slower-than-expected expansion into Asia.

The shares have now lost around 45% of their value since hitting their peak in early 2013 and while some investors may be tempted to buy at these depressed levels, I think there are a number of reasons that the shares may remain under pressure for some time, including:

  •  Australian division remains under pressure – This division makes up around 70% of the company’s overall profits, but has been the main drag on earnings over recent years. One of the big reasons for this has come from a significant price war with Schweppes. While this has benefited Australian consumers through lower prices, it has been to the detriment of Coca-Cola Amatil’s sales and profits.
  • Un-inspiring growth targets – Tying in with the point above, the company is targeting low-single-digit growth for the Australian market and for mid-single-digit earnings per share (EPS) growth overall. This is quite a low growth target and highlights the fact that the Australian market is relatively mature and will be unable to offer the company any significant growth opportunities. Coca-Cola Amatil is targeting double-digit growth in some developing markets in Asia, but this currently represents only 23% of the company’s total profits.
  • Australian consumer tastes are changing – Coca-Cola Amatil has realised this point and has moved to introduce new products that are seen as healthier alternatives to its traditional soft drink products. Unfortunately, this is yet to have a big impact on the company’s bottom line and I expect the company will need to invest heavily in these new products to offset the decline from its core soft drink range.
  • The shares are still not that ‘cheap’ – Coca-Cola Amatil shares are currently trading on a price-to-earnings ratio of around 16. Although the shares have historically traded on a much higher multiple than this, I think the current valuation is too optimistic when you take into account the company’s own growth targets.

Foolish takeaway

There is no disputing that Coca-Cola Amatil will be around for many years to come but that doesn’t mean it will be a great investment.

It could potentially have a place in the portfolio of defensive investors looking for a stable dividend, but I think investors looking for growth will have better opportunities elsewhere.

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Motley Fool contributor Christopher Georges has no position in any stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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