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Dividend Stock Wars, Fizzy Lift Edition: Coca-Cola vs. PepsiCo

We’re on the cusp a new month and, like always, that means it’s time to roll out another round of Dividend Stock Wars.

Now, given the market’s wild swings over the past two weeks, many investors are undoubtedly in search of some stable ground. So I’m going to take this occasion to return to the classics – big, low-volatility (read: defensive) dividend stocks.

And when it comes to dividend payers, you can’t get more classic – or well-known – than the competition between Coca-Cola (KO) and PepsiCo (PEP)…

Rules of Engagement

As many of you already know, the concept of a stock war couldn’t be simpler.

Pit two companies against one another, conduct a blow-by-blow fundamental comparison of each, and (based on the results) pinpoint the most investment-worthy stock.

Armed with the analysis, you can then consider buying the winner – or both, if it’s a close matchup.

We’ll use our seven guiding principles of dividend investing – plus one more critical fundamental (valuation) – to determine the winner.

So without further ado, let’s kick off the first round…

~Round 1: Simple Business

Usually, the rule is easy: The simpler the business, the better the investment.

This holds especially true for income investing. The fewer the moving parts, the fewer the risks – and the more likely you’ll be getting that dividend next quarter (and the next, and the next).

But sometimes a business can be too simple for its own good.

Case in point: Coca-Cola recently lost its long-held lead over Pepsi in sales. Why? Because while Coke does one thing very well (i.e. – sell soda), Pepsi has managed to beef up its revenue in a big way through its Frito-Lay division.

With more than 40% of the world’s salty snack market under its belt, Pepsi did become a bit more complicated, but it remains relatively simple and understandable, nonetheless.

So I’m going to amend our rule by quoting Einstein: “Everything should be as simple as possible, but not one bit simpler.”

Advantage: PepsiCo

~Round 2: Steady Demand

Despite the fact that neither sells consumer staples or essential goods, the demand for Coke and Pepsi products remain stable even during economic downturns.

Actually, scratch that. The brand reach for both companies is so thorough, that even when consumers cut spending in nearly every corner of their lives, revenue for Coke and Pepsi continues to flourish.

Case in point: Between 2007 and 2010, Coke’s revenue rose from $28 billion to $35 billion, and Pepsi’s from $39 billion to $58 billion.

However, while revenue for both companies is beyond “stable,” Coke’s revenue continued climbing from 2011 to 2012, from $46 billion to $48 billion. Pepsi’s, on the other hand, declined slightly over the same period, from $67 billion to $65 billion.

Advantage: Coca-Cola

~Round 3: Cash Flow Positive

If a company isn’t generating cash each quarter, the only way to pay a dividend is by borrowing or tapping into cash reserves. Such practices aren’t sustainable over the long term – and the dividend will eventually be cut.

No surprises here. Neither Coke nor Pepsi is even close to having an issue in the cash department.

In 2012, Pepsi’s free cash flow (FCF) was enough to cover its dividend payments 1.74 times. That’s basically equivalent to Coke’s FCF, which covered dividends paid by 1.71 times.

Now, when you’re talking about companies as large as Coke and Pepsi, the likelihood of cash flow getting in the way of dividends is basically nil. And while both look healthy, the difference isn’t enough to declare a clear winner.

Advantage: Draw.

Round for round, with one draw and a win for each, Coca-Cola and Pepsi are neck and neck.

There are still four rounds left, though. So be sure to keep an eye out for Monday’s continuation.

Safe investing,

Ryan Anders