Forget Coke — This ‘Dark Horse’ Stock Has Double-Digit Upside

Here’s a little-known statistic that could prove highly profitable for you: Over the next four years, worldwide consumption of non-alcoholic beverages is expected to grow at a 6% compound annual rate. 

In 2010, the retail market for non-alcoholic beverages was $135 billion. By 2020, it’s expected to increase by $300 billion. Global urban population growth, an expanding middle class and higher disposable incomes are driving this trend.

With a strong chart and upbeat fundamental outlook, I’m excited about America’s third-largest soft drink company, Dr Pepper Snapple Group (NYSE: DPS), which makes six of the top 10 non-cola soft drinks.

In addition to its namesake Dr Pepper and Snapple drinks, the beverage company offers nearly 50 other brands, including 7Up, Mott’s and Canada Dry. These products are distributed throughout North and Latin America.

Dr Pepper is clearly doing something right. In 2013, Citi Research said U.S. retail soft drink sales fell for the first time in 15 years. In the first quarter of 2014, they declined another 1.9%. Despite these drops, Dr Pepper’s sales volume rose 1% in the most recently reported first quarter, and revenue for the period increased 1.3%, to $1.4 billion. Through productivity improvements and reduced ingredient costs, earnings spiked 40% from the year-ago quarter to $0.74 per share. 

One of the reasons for its growth was increasing sales in Mexico, the world’s largest consumer of carbonated soft drinks and bottled water. In the first quarter, revenue from Latin America increased 17% despite a recently imposed tax on soda in Mexico, which accounts for 90% of the company’s sales in this region. Higher prices protected Dr Pepper’s profit margins, and double-digit revenue growth in the Penafiel brand of carbonated mineral water helped the top line. 

Interestingly, both Coke (NYSE: KO) and Pepsico (NYSE: PEP) reported lower year-over-year beverage volumes in Mexico, showing Dr Pepper snagged market share from its larger competitors.

Tapping into shifting North America consumer preferences, the company is now moving toward natural sweeteners, including stevia and real sugar, instead of high-fructose corn syrup. Later this year, the company will introduce its first 60-calorie naturally sweetened sodas in the U.S. 

The beverage maker is also shifting focus to flavored waters and juices, another rapidly growing market. In 2013, retail sales of sparkling water increased 30% to $1 billion. Recognizing this profit potential, Dr Pepper partnered with privately owned Sunny Delight to launch a carbonated flavored water brand called Sparkling Fruit2O. 

Coconut Water is also a lucrative avenue for Dr Pepper. U.S. sales of coconut water have doubled every year since 2004. Dr Pepper’s Vita Coco is the leading brand with annual sales of over $200 million.

By catering to shifting consumer tastes, Dr Pepper should continue to grow. The company’s current limited geographic focus also provides room for expansion in several regions of the world.

The chart paints a bullish picture.

Rising off a 2012 low near $37, shares formed a major uptrend, steadily rising to a peak near $50 in May 2013. Shares then pulled back, retreating to the $42 level in October and touching the major uptrend line.

By early December, DPS rallied back to resistance around $49 and consolidated there until a breakout in mid-February on higher-than-average trading volume. The $49 level now marks important support. 

An accelerated uptrend line formed as shares quickly moved to a high of $54.61 in April. The stock retreated slightly from this high, but held support marked by the intersection of the accelerated uptrend line.

Bouncing off this support, an even steeper minor uptrend line has formed. DPS is currently trading above this uptrend line, just below $57 and close to an all-time high, so there is little overhead resistance.

Analysts following the company project the stock could rise 14% to a target price of just over $65.

The bullish technicals are supported by strong fundamentals.

For the upcoming second quarter, analysts anticipate revenue will increase 0.7% from the year-ago quarter, to $1.6 billion. For the full 2014 year, they estimate a 0.8% increase, to just over $6 billion. Second-quarter earnings are expected to rise 7% year over year to $0.90 per share, while 2014 earnings are estimated to increase 8%, to $3.46 per share. 

In addition, management plans to spend $375 million to $400 million on share repurchases this year. And it recently increased its quarterly dividend payment to $0.41, for a current yield of 2.9%. This should help to put a floor under the share price.

Risks to Consider: About 75% of Dr Pepper’s current sales are from carbonated soft drinks in the U.S. and Canada. With North Americans becoming more health-conscious, soda demand could continue to decline. However, the company has shown an ability to adapt to shifting consumer tastes.

Action to Take –>
— Buy DPS at the market price
— Set stop-loss at $51.89, just below support marked by the intersection of the accelerated uptrend line
— Set initial price target at $65.10 for a potential 14% gain by late 2014

This article was originally published at 
No. 3 Soda Company is a Top Pick for Double-Digit Profits by Year-End

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