Pepsi Continues to Lean On Its Snacking Division

Beverage and snacking giant�PepsiCo, Inc.�(NASDAQ:PEP)�issued its second-quarter 2018 earnings report on Tuesday, and it largely met the guidance management provided for investors in the first quarter. In an environment in which multinational consumer packaged goods (CPG) companies are struggling to expand, the ability to merely meet expectations is held in investor esteem -- shares rose roughly 5% in the trading session following PepsiCo's release. Let's review both the big-picture metrics and the details of PepsiCo's last three months.

PepsiCo results: The raw numbers Metric Q2 2018 Q2 2017 Year-Over-Year Change

Revenue	$16.09 billion	$15.71 billion	2.4%
Net income	$1.82 billion	$2.1 billion	(13.3%)
Diluted EPS	$1.28	$1.46	(12.3%)

Data source: PepsiCo.��

What happened with PepsiCo this quarter?

Organic revenue -- that is, reported revenue adjusted for acquisitions, divestitures, and the effects of foreign currency -- jumped 2.6% against the prior-year quarter. As I noted in my earnings preview, PepsiCo needed organic revenue growth to land between 2% and 3% to maintain the viability of a full-year 2.3% increase target.

Company performance was led by PepsiCo's second-largest segment, its Frito-Lay North America (FLNA) business. FLNA achieved volume growth of 2% versus Q2 2017, while net revenue improved 4% to $3.8 billion. Segment operating profit climbed 4% to $1.2 billion.

FLNA is benefiting from demand in what CPG research firms like to call the "core indulgent" category, which includes both sweet and salty snacks. This spring, I described how the division is enjoying higher sales in core indulgent snacks, even as it shores up its lineup of "clean" ingredient, "better-for-you" offerings, as evidenced by PepsiCo's pending acquisition of baked fruit and vegetable chip maker Bare Foods Co.

In contrast, North America Beverages (NAB), PepsiCo's largest segment, saw revenue dip 1% to $5.19 billion, while segment operating profit slumped 16% to $747 million. NAB's revenue has been pressured by a multiyear industry decline in sugary carbonated beverage volumes. While it's managed to offset this with portfolio diversification, PepsiCo recently admitted that rival Coca-Cola's (NYSE:KO) marketing support for trademark sodas like Coke and Diet Coke was eating into its own market share. We'll revisit this phenomenon below.

NAB's organic revenue decreased 1% and volume growth dipped 2%, yet these results represented sequential progress against last quarter's year-over-year comparisons, in which organic revenue and volume shrank by 2% and 3%, respectively.

Management attributed NAB's double-digit slide in operating profit to the decline in sales, as well as rising freight transportation costs, and higher commodity input costs.

Among the company's remaining segments, Asia, Middle East, and North Africa (AMENA) notably notched a jump in operating profit of 43% against the prior year. Even after removing 26 percentage points due to the refranchising of beverage businesses in Thailand and Jordan, AMENA enjoyed a double-digit increase in profits, a result of PepsiCo's cost-cutting measures across all geographies.

Similarly, Latin America reported an operating profit increase of 27%. The segment benefited from lower restructuring and impairment charges versus last year, and gained five percentage points in profit from insurance settlement payouts related to a 2017 earthquake in Mexico.�

Latin America booked an organic revenue gain of 3.5% over the prior year. However, a transportation strike in Brazil that lasted 11 days shaved at least 2 percentage points of additional organic revenue growth from this quarter's report. Thus, the positive results in this segment are slightly understated.

What management had to say

Image source: Getty Images.

During PepsiCo's earnings conference call, CEO Indra Nooyi addressed the need to support the organization's trademark soda brands regardless of innovation within other categories, as soft drinks remain a critical part of PepsiCo's revenue puzzle. Nooyi reassured investors that the behemoth would remain competitive with Coke's flagship products on store shelves:

As we mentioned last quarter, we have stepped up media support on trademark Pepsi under the Pepsi generation's campaign. As a result, in the second quarter, we began to see improvement in a number of key brand health metrics that is leading to better net revenue performance as the year progresses. So, we intend to stay the course increasing investment behind brand support in the second half of the year with the aim of driving further top line improvement. At the same time, we remain laser focused on higher growth categories with appropriate brand investment and robust innovation. For example, bubly, a cleverly marketed new entrant in the fast-growing sparkling water segment launched earlier this year and it continues to perform exceedingly well.

Looking forward

Since PepsiCo achieved its organic revenue goal during the second quarter, it left full-year revenue guidance intact. Management reiterated its 2018 organic revenue growth rate target of 2.3%, and though it cautioned that commodity price increases might pressure margins in the back half of the year, PepsiCo is maintaining its "core," or adjusted, earnings-per-share benchmark of $5.70. If met, this result will represent a 9% increase over last year's earnings.�