EUR 850.00 For Business Accounts Only

Morningstar | Coca-Cola Femsa's Pricing Strong in 1Q, but Macroeconomic Challenges Persist; Shares Undervalued

Coca-Cola Femsa posted solid top-line performance in the first quarter, with revenue up 4.8% (versus our 4.6% full-year estimate) on a 2.5% increase in average price per unit case. The firm's ability to flex pricing in most regions to help offset ongoing macroeconomic and currency headwinds suggests that its brand equity, which forms the basis of our narrow moat rating, remains healthy. However, profitability remains hampered by cost pressures, including an increase in concentrate costs in Mexico and Brazil, as well as higher expenses for packaging, labor, and freight. In aggregate, these factors led operating margin to contract 70 basis points to 12.4% (about 100 basis points below our full-year outlook). However, we remain optimistic that the firm's focus on maintaining pricing and focusing on higher-margin packaging formats (like single-serve) will help improve profitability over the long run, with our forecast calling for operating margin above 14% by 2023. We expect to lower our near-term margin outlook in light of these results, but the revision should largely be offset by the time value of money and a more favorable exchange rate. As such, we aren't anticipating a significant change to our $73 per ADR fair value estimate.

From a geographic perspective, we were pleased that pricing remained strong in the Mexico and Central America segment (54% of sales), with an 11.4% increase in revenue driven by a 10.6% improvement in average price per case, outpacing our full-year expectations for high-single-digit revenue growth. Further, the firm's pricing initiatives and lower sweetener costs led to gross margin in the region that expanded 40 basis points to 47.5% (we expect full-year gross margin to expand 40 basis points over the prior year, as well, to 48.5%).

In contrast, macroeconomic challenges continue to plague Coca-Cola Femsa's operations in South America (46% of sales), as volumes in Colombia (7%) and Argentina (4%) declined around 9% and 33%, respectively. We surmise deleveraged volumes, coupled with input cost inflation, led to gross margin in the region that contracted 200 basis points to 42.5% (matching our full-year estimate).