Buy 1, get 0.17 free!
That's what you're doing if you buy Coca-Cola Amatil Ltd (ASX: CCL) shares today instead of at their recent highs of $11. Australia's premier beverage bottler dropped back below $9.35 in trade this morning, up just 3.6% for the year and down some 17% since its high point in April.
It was only two weeks ago that shares first dipped below $10, and as of today they are now at the price I paid for my holdings a year ago. While Amatil's woes have attracted much attention, the company presents a compelling 'Buy' case and I think today's prices are a solid entry point for investors.
The Motley Fool's strict rules prevent me from trading in companies for a certain period of time before and after I write about them, which is why I haven't added to my holdings – yet. But if prices stay around the current level I will buy more very soon.
Reasons I'm buying Coca-Cola Amatil Ltd
- Indonesian growth
Indonesian volume could be larger than Australia's within five years if recent growth rates continue. That's a big if but there are decent tailwinds and I think ultimately it's not a question of IF Indonesian volumes surpass Australia, it's a matter of when.
The biggest market in south-east Asia has plenty of room for growth and macroeconomic tailwinds like rising incomes and a gradual transition towards a service based economy means that more people can afford to drink Amatil beverages, and they will drink more of them.
- Reformed domestic operations
Savings from cost-cutting and reforms to the beverage supply chain will fund a renewed focus on marketing which should help justify (in the eyes of customers) the price premium on Coke compared to the products of competitors. SPC Ardmona came close to a break-even result last year and further investment and deals with major supermarkets could see it turn to a profit making operation sooner rather than later.
SPC is a relatively insignificant contributor to profit, but the domestic businesses provide most of Amatil's earnings and I require continued strength there as part of my investment thesis.
- Defensive earnings
While it's unlikely that Australian earnings will grow much faster than GDP growth, they generate piles of cash which acts as the linchpin for Amatil's high dividend payout ratio (above 80%) and its overseas growth opportunities.
In a nutshell, my investing thesis involves buying Coca-Cola Amatil at an attractive price for its defensive earnings and income while the Indonesian/ PNG operations grow to significance over the medium term. Of course, part of investing in shares is the extra risk you take on in return for a greater reward, and Coca-Cola Amatil certainly isn't risk-free.
Risks and when I'd sell
1. Pricing risks
Amatil's parent company in America could increase the price it charges for drink syrup. Margins could be squeezed either by higher costs (rising employee wages among others) or pricing pressures from supermarkets or competitors Pepsi and Schweppes. An inability to impose price rises or the necessity to discount to drive sales (some of which is happening already) could also affect future growth.
If a combination of these factors started to put a long-term squeeze on margins or impact volume/market share, then I would consider parting ways with my Amatil shares.
2. Indonesia
With Indonesia offering the company's best growth prospects, it's also the biggest threat to my investing thesis. I'm not too concerned about a weak Rupiah as this provides equal parts benefit and penalty, and should strengthen over time. The key thing for me is volume growth and capturing a meaningful part of the Indonesian market.
Cost inflation and stiff competition have put a lot of pressure on earnings in recent years and while these aren't my focus, if they continue to prevent volume growth from translating into greater earnings over the next five years I would rethink my investment.
3. Failing to deliver adequate growth
For my shares, I have set a 2020 target for Amatil's Indonesian volume to break the 300 million unit case barrier. This is six annual reports away and requires average growth of 10% per annum – on par with recent years – to reach. If the company were to fall significantly short of this target (below say, 270 million) I feel it would be a good indicator of struggles and would prompt a re-think of my growth assumptions.
Coincidentally 2020 is also the target Amatil's management has set for Indonesia to become cash-flow positive and able to self-fund its own investment in the future. Failing to achieve this target could also act as a red flag on my investment. In the meantime, however, my investing thesis is intact, and I am a buyer of Coca-Cola Amatil shares (when trading rules permit) at today's prices.
