Coke Vs. Pepsi

1049 Words3 Pages

We researched Coke and Pepsi as was requested to see which one would be a better

investment over the other. One of the ways to see how a company is doing is to look at

how much (EVA) Economic Value Added that company is producing. EVA is a way of

measuring an operation’s real profitability. EVA is better than conventional ways because

it takes into account the total cost of the operating capital. EVA is simply the after-tax

operating profit minus the total annual cost of capital. Using EVA has advantages as well

as disadvantages.

Advantages

· EVA sends the message than managers should invest only if the increase in

earnings is enough to cover cost of capital

· EVA allows a good way for companies to set a reward system that is not

overly expensive to implement because is not too difficult for top

management to monitor.

· EVA makes the cost of capital visible to operating managers

· Stock prices track EVA more closely than they track other popular measures.

· Ways to improve EVA

o Increase earnings

o Reduce capital employed

o Invest capital in high-return projects

Disadvantages

· EVA does not involve forecasts of future cash flows and does not measure

present value.

· EVA therefore rewards managers who take on projects with quick paybacks

and penalize those who invest in projects with long gestation period.

· Need to make changes in income statements and the balance sheet to measure

economic value.

Looking at the historical trends of Coke and Pepsi in terms of EVA we find Coca-Cola's

EVA has been slowly decreasing while PepsiCo's EVA has been increasing (see Exhibit

1.1). Coca-Cola's NOPAT has decreased in recent years as a result of slowing sales

growth and worsening profit margins. If it were not for Coca-Cola's decreasing WACC,

its EVA would decrease more rapidly. If Coca-Cola used a WACC of 12%, about the

average of the past seven years, its EVA would have been $445,000,000 in 2000.

PepsiCo was able to more than double their EVA in 2000 due to higher NOPAT and

lower WACC. The higher NOPAT, was mainly a result of improved margins which lead

to a higher ROI. The key to EVA is the spread between ROI and WACC. It is important

to invest capital at a higher rate than the capital is obtained at. In theory, as long as there

are enough projects that produce ROI > WACC and enough capital supplied, EVA can

grow indefinitely.

EVA ($MM)

($2,000)

($1,000)

$0

$1,000

$2,000

1994 1995 1996 1997 1998 1999 2000

Year

EVA

Coca-Cola

PepsiCo

WE mentioned above that the (WACC) Weighted Average Cost of Capital is important.

So now lets take a look at what WACC is and why it is important.

Open Document