Coca-Cola Dims 2016 Outlook on Weaker Revenue Growth

By Asit

Image source: The Coca-Cola Company.

The Coca-Cola Company's(NYSE: KO)second-quarter 2016 earnings, releasedon Wednesday, continued the first quarter's theme of declining revenue resulting from carbonated-beverage weakness. Earnings fared better as the multinational refreshment purveyor increased earnings per share by 11% in the quarter. Nonetheless, ongoing volume softness in key international markets caused Coca-Cola to revise its outlook for the rest of the year.

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Let's walk through the key numbers from Wednesday's report, discuss earnings highlights, and review the specifics on the company's forward guidance.

The Coca-Cola Company: The raw numbers

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Data source: Coca-Cola Company 8-K filing, July 27, 2016.

What happened with Coca-Cola this quarter?

  • Unit case volume, which advanced just 2% in Q1, turned flat in Q2. The company did gain three percentage points from pricing and mix, but this gain was offset by foreign currency effects and the impact of acquisitions and divestitures, leading to the reported revenue decrease of approximately 5%.
  • Sparkling-beverage volume declined 1% during the quarter, while still volume gained 2%. Despite higher marketing spends, the company faced the familiar scenario of struggling with soda sales, while non-sparkling beverages advanced.
  • In a worrying sign to investors, organic revenue -- that is, revenue without the application of currency effects and structural items -- decelerated to 3% during the quarter. Company management cited difficulties in emerging markets such as China and Argentina as a primary damper on organic growth.
  • Gross margin of 61.3% improved slightly versus 60.9% in the comparable prior-year quarter. Operating income margin jumped 390 basis points, to 24.8%, but the comparison was due to a drag in the prior year, when Coca-Cola booked a $380 million impairment charge resulting from its brand transactions with Monster Beverage Corporation(NASDAQ: MNST).
  • The quarter wasn't without a few bright spots. In part because of ongoing productivity initiatives, as well as the favorable operating margin comparison vis-a-vis 2015, Coke was able to report an improvement of 11% in diluted EPS.
  • In another positive development, the company cited strength in the U.S., Mexico, and Japan as a counterbalance to emerging-market revenue woes. These countries represent Coca-Cola's first, second, and fifth largest global markets, respectively.
  • Coca-Cola won't mind if mature markets continue to show relative outperformance for a while, such as the 4% organic revenue growth rate achieved in the U.S. in Q2, for example. Though they lack rapid volume expansion potential, developed countries such as the U.S. and Japan lend themselves to higher pricing and premium margin opportunities.

What management had to say

In Coca-Cola's earnings release, CEO Muhtar Kent addressed the company's current ground game within turbulent emerging markets:

"In these international operations where external headwinds have proven to be more severe than originally forecast, we are taking action by reassessing local market initiatives where needed and continuing our efforts in driving productivity."

During the organization's earnings conference call with analysts on Wednesday, Kent explained that "reassessing local market initiatives" means tactically easing up on resources in underperforming markets, while shifting resources to those which are building momentum.

This fits a recent pattern in which Coke executives seem to be implementing revenue management strategies in local markets much more rapidly than in years past. And actually, they have little choice: Hyperinflation in Latin America, coupled with more tentative consumers in Europe, China, and even parts of Africa, forces Coke to be more pragmatic with its advertising and distribution, and to favor areas that respond quickly to investment.

Looking forward

Coca-Cola stock ended Wednesday's trading session down more than 3%. The company's second-quarter results really weren't much worse than the first quarter; however, management lowered its outlook for organic revenue growth in 2016, from a previous range of between 4% and 5%, to the slower and more specific growth rate of 3%.

This pushed the estimated range of full-year comparable EPS down roughly two percentage points, to a projected decrease of 4% to 7% from last year's comparable EPS of $2.00.

At midyear, it certainly seems that Coca-Cola is working hard to preserve even a small bit of organic revenue expansion. Looking ahead to Q3, the company might find a revenue catalyst in the form of further favorable pricing in mature markets. Spurring growth in developing countries while holding emerging markets steady is essentially the opposite of the company's long-term strategy, but if Coke can reaccelerate in the back half of the year, it won't be too particular about flipping the script for the time being.

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Asit Sharma has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Monster Beverage. The Motley Fool recommends Coca-Cola. Try any of our Foolish newsletter services free for 30 days. 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.