We rate the shares a Hold with a $20 price target.
Jason Napodano, CFA, contributed to this report.
PEP Soft Drinks Losing Their Pop
PepsiCo, Inc.'s (PEP) strong international growth, productivity improvements, an aggressive share repurchase program, and a strong new product pipeline are driving its low double-digit earnings growth. Nevertheless, a sluggish domestic carbonated beverage environment and only modest low-single digit volume growth at Frito-Lay are concerns. The Hold recommendation is maintained.
Domestically, management is implementing multiple initiatives to counter the weak retail environment for carbonated soft drinks. But rising energy prices, along with higher corn oil and orange costs, are forcing both bottlers and retailers to pass along the higher costs to consumers. Higher pricing at retail suppresses demand and/or increases market share of private label alternatives.
PepsiCo stock is currently selling at 19.0 times trailing 12-month EPS, reflecting the company's growth profile, primarily due to the significant exposure to the snack food category. We do not expect PepsiCo stock to outperform until expectations for volume growth at Frito-Lay North America accelerates to 5 percent or more. The target price of $72 is based on a 21 P/E on trailing 12 month earnings.
Headwinds for Universal Forest
Universal Forest Products, Inc. (UFPI), a manufacturer and distributor of lumber, composite wood, plastic and other building products, reported a first quarter loss of $0.24 per share versus earnings of $0.20 per share in the prior-year quarter, due to ongoing weakness in housing market, a decline in lumber market, weak consumer spending, as well as adverse weather conditions. The decline in sales and intense pricing pressure depressed margins.
However, UFPI remains on track for market share gains in the Industrial unit and among the big-box retailers. Market share gains are critical to offset the slowing sales growth related to housing. We expect a continued drop in housing starts and home equity withdrawal to negatively impact building product sales to the site-built and retail channels. We reiterate our Hold recommendation on shares of UFPI with a target price of $34.00.
The shares of UFPI are trading at a P/E multiple of 29.3x our 2008 EPS estimate of $1.11. Currently, the company trades at a premium to the industry median multiple, which is unwarranted due to its exposure to the weak housing market. In the next couple of years, we expect headwinds from housing to pressurize the do-it-yourself (DIY) and site-built units and to keep a lid on overall growth.
Unfortunately, the two units combined made up approximately 62% of total sales in 2007. Hence, the gains in market share are only a partial offset to the weakness tied to housing. While near-term headwinds to growth lie ahead, we believe the risks have been priced into the shares. Applying a P/E multiple of about 30.6x our 2008 EPS estimate, we derive a target price of $34.00 per share.
