The Coca-Cola Company Feels the Sting of Dollar Dominance

By Asit

Image by Leo Hidalgo under Creative Commons license.

For the Coca-Cola Company , as well as many other U.S.-based multinationals, the buoyant U.S. dollar, riding high against almost any basket of national currencies you can think of, has been an unwelcome deflator of 2015 quarterly earnings. In its fiscal third-quarter 2015 earnings reported Wednesday, Coke posted revenue of $11.4 billion, a 5% decrease from the comparable prior-year quarter. Net income declined to $1.5 billion from $2.1 billion in the previous year, which equated to $0.33 per diluted share, versus $0.48 in Q3 2014.

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Coke ascribed its performance lag to a currency headwind of 8% against revenue, as the dollar trumped local currencies in the numerous countries where Coke does business. The company reported that organic revenue actually grew 3% during the quarter. In addition, currency effects created a drag of 12% on both operating income and earnings per share.

Earnings were also affected by charges the company took in its effort to refranchise its North American bottling operations, and additional charges within its ongoing productivity program. These charges, in total, trimmed the bottom line by $871 million, or $0.18 per share. Below, we review five additional highlights from Wednesday's earnings filing.

Trademark Coca-Cola does well globally, but Diet Coke weakness persistsCoke managed global unit-case volume growth in sparkling beverages of 2% during the quarter. Global "trademark Coca-Cola" soda volume increased 1%, which, along with gains in Coke Zero of 8%, as well as single-digit contributions from Sprite and Fanta, offset an 8% decline in Coca-Cola's second-best-selling beverage, Diet Coke. Diet Coke still appears to be suffering from consumer concerns regarding the potentially harmful health effects of its ingredients.

"Still," or non-sparkling, beverages continue to gain share at a much faster rate than their carbonated counterparts. During the three months ended October 2, 2015, Coke's bottled water, teas, juices, energy drinks, and other still offerings saw volume expansion of 6%. Year to date, still beverages have grown by 4%, versus 1% for sparkling beverages.

Coca-Cola is beginning to realize some payback from its recent distribution deal withMonster Beverage Corporation. The expanded distribution of Monster beverages contributed one percentage point to total North American unit-case volume, both during the quarter and year to date.

This 1% is perhaps more important than it looks. Without it, North American unit-case volume would have been flat. Shareholders will want to pay attention to the Monster contribution next quarter to see if the energy drink manufacturer's brands further assist Coca-Cola's total volume.

Productivity gains are getting absorbed by currency differentials -- for nowThis quarter, Coca-Cola's gross profit of $6.8 billion marked a decline of about 7% from last year's $7.3 billion benchmark. However, on a currency-neutral basis, the company's gross profit actually rose 2%, indicating that gross profit margin is rising in real terms, if ever so slightly.

The gross margin improvement on a currency-neutral basis can be traced back to the company's productivity plan, which aims for $3 billion in annual cost savings by 2019. The anticipated savings won't have a dollar-for-dollar impact on net income, as some gains will be reinvested in marketing, and other aspects of Coke's business. Yet the initial effects on margin bode well for a future in which foreign currencies will inevitably regain some ground against the U.S. dollar, thus making cost improvements more visible.

A new U.S. refranchising deal is announcedAlongside earnings on Wednesday, Coca-Cola announced that it has entered into agreements with three U.S. bottlers as part of its goal to refranchise (sell back to other companies) one-half of its U.S. company-owned bottler volume by 2017.

Formalizing the transaction, Coca-Cola issued letters of intent to bottlers in Chicago, Tampa, and Atlantic, Iowa, granting them exclusive rights to sell and distribute bottle-delivered Coca-Cola beverages within their geographic territories. In addition, Coca-Cola's U.S. bottling arm, Coca-Cola Refreshments, will sell off its local bottling assets to each partner.

This deal is part of a larger effort to transform Coke into a company that's focused on brands as much as it is distribution. Coke still retains interests in bottling partners around the world in the form of equity investments and joint ventures, but owning less infrastructure should facilitate the beverage giant's quest to modernize its drink portfolio.

Cash flow continues to be a bright spotDespite losing on currency differentials around the globe in 2015, Coca-Cola has continued to deliver the ample cash flow that its shareholders dearly prize. Cash from operations through the first three months of this year totaled nearly $8.4 billion.

The company has already paid out $4.3 billion in dividends, and repurchased nearly $2.0 billion of its own shares so far this year. This was achieved through the use of the company's free cash flow, along with some proceeds of $4.1 billion in net debt issuance completed year to date.

Outlook: more of the sameCoca-Cola updated full-year guidance Wednesday, and as expected, indicated no immediate relief from dollar strength. For the fourth quarter, management anticipates a currency headwind of six percentage points against net revenue, and 12 percentage points against operating income. For the total year, currency will drag on net revenue by seven points, and operating income by eleven points.

While virtually all of 2015 has been clouded by the firm greenback, on the bright side, Coke is setting up easier comparisons for next year. In addition, the pay-off from its investments in smaller brands such as Monster, coupled with productivity discipline and aggressive brand marketing, should begin to manifest soon. At this point, however, we're likely looking at 2016 for such a boost.

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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 has the following options: long January 2016 $37 calls on Coca-Cola, short January 2016 $43 calls on Coca-Cola, and short January 2016 $37 puts on Coca-Cola. 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.

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