News Analysis date published New: 
Monday, August 13, 2012 - 10:30
New Date created: 
Monday, August 13, 2012 - 11:37
New Date last updated: 
Monday, August 13, 2012 - 10:30

A 39% Dividend Yield From Coca-Cola?

Monday, August 13, 2012 - 10:30am

Warren Buffett is currently earning a 39% dividend yield on his shares of Coca-Cola (NYSE: KO).

It seems impossible. If you or I were to buy the shares today, we'd earn a yield of just 1.3%.

But Buffett first added the shares to Berkshire Hathaway's (NYSE: BRK-B) portfolio back in 1988. Despite being a mature business even back then, the stock has earned roughly 1,800% on Berkshire's original investment. Meanwhile, Berkshire's yield on cost (the amount of dividends earned as a percentage of the original investment) is 39% per year thanks to Coke's steady dividend growth.

What's behind this? After all, Coke had been around for more than a century before Buffett invested. How is it that some companies can continue to grow -- and raise dividends -- seemingly forever?

It's an advantage that I call a "legal monopoly."

The few businesses that have this advantage are among the richest companies in the world. And they only seem to get richer with every passing year -- much to the enjoyment of their investors.

Many companies have operated with this advantage for decades, without a peep from the government.

That's because this isn't a monopoly in the traditional sense. Most monopolies attract attention (and regulation) because they keep other businesses from competing. They tilt the odds so far in favor of one company that no one else can even do business.

But the legal monopoly I'm talking about doesn't keep other businesses from competing -- it simply helps a company to continue growing and generating billions in profits for its investors... almost no matter what.

Take a look at what Coke has done during the past decade. And remember, the company was founded in the 1880s. The results below come after more than a century in business.

So what is the legal advantage that allows some companies -- like Coca-Cola -- to essentially grow forever, raise dividends and return hundreds of percent for their investors?

It's the strength of their distribution networks.

If you don't get excited about distribution networks, I don't blame you. At first glance, they seem boring and technical. But they couldn't be more important.

Distribution networks are key to getting a product in front of consumers. It's the network that gets a product from production to a store's shelves.

Coca-Cola has one of the largest and most efficient distribution networks on the planet. The company's products are sold in over 200 countries and it has over 270 distribution centers located around the globe. That's how it is able to sell 1.7 billion beverage servings every day, all over the world.

By comparison, RC Cola, one of Coca-Cola's biggest competing brands is only sold in 45 countries... and the soft drink's producer -- Dr Pepper Snapple Group (NYSE: DPS) -- only has distribution centers in the United States, Canada and certain parts of Latin America.

Thanks to the immense size its distribution network, Coca-Cola continues to grow year after year. That's because it can leverage its distribution network to boost sales for new products, practically overnight.

Take the case of Coca-Cola's Zero. The product was introduced in 2005, and within four years, sales of Coke Zero were already topping $1 billion per year.

On the other hand, Jones Soda (NASDAQ: JSDA) -- another popular American soft-drink company -- has been around for almost three decades... but due to the company's limited distribution channel, Jones Soda's revenue barely broke $17 million in 2011.

For a smaller company like Jones, achieving $1 billion in sales is seemingly impossible due its limited distribution network.

In fact, companies with dominant networks like Coke don't even have to create their own products. Often, they can simply buy another company and add the product to their own distribution network, creating billions of dollars in value in the process.

That's how Coca-Cola has developed 15 brands that generate sales of more than $1 billion annually... and it continues to add more.

With all of this in mind, it's little surprise Coca-Cola has increased its annual revenue every year since 2001. Meanwhile, its dividends have increased every year since 1962.

But as much as I admire what Coca-Cola has done with its massive scale and dominant distribution network... and the billions it returns to investors... I don't think you should rush out and buy the stock right now.

The stock is expensive. Right now it's trading at a P/E ratio of 21.4... over five points higher than the S&P historic average of 15.5. With such a rich valuation, it would be wise to wait before jumping into this stock.

Action to Take --> But the good news is Coca-Cola is by no means the only stock like it. In my August issue of Top 10 Stocks, I profiled a company with a distribution channel that rivals Coca-Cola's... is trading at a cheaper valuation... and has a history of making its investors wealthy. To get the name of this stock, click here to become a Top 10 Stocks subscriber. (If my newsletter isn't for you, you can always cancel your subscription within the first 30 days for a full refund... no questions asked.)

Paul Tracy does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC owns shares of BRK-B, KO in one or more of its “real money” portfolios.