Efe Dikmen, Brian Li, Eric Wang

Principles of Financial Accounting

Professor Minye Tang
7 May 2019

Food/Beverage Industry
PepsiCo (PEP)

Tyson Foods (TSN)

Kraft Heinz Co (KHC)

 Important Assets In the Food Industry

We have chosen to investigate the food industry, specifically the companies of PepsiCo,
Tyson Foods, and Kraft Heinz. The food industry intrigued us because people consume massive
amounts of processed food and beverages, yet do not know that a few major companies hold the
majority market share in terms of distribution, branding, and revenue. Moreover, much of society
depends on food and food distribution, so understanding how the major companies of the food
industry operate financially will help us better understand how the food industry has come to be
dominated by these companies. We chose the firms Kraft Heinz, PepsiCo, and Tyson Foods
because they are all leaders in the food industry in terms of brand recognition and revenue
generation, but also because they are different enough to all have become leaders in the food
industry. Thus, we will explore the food industry’s finances from these three companies, and
analyze their financial statements to determine just how domating they really are.
Manufacturing and food processing are crucial to the retail aspect of these companies,
PPE is necessary for the operation and success of these companies, which includes their
processing equipment, factories, brick and mortar stores, and land for agricultural production,
and vehicles for transportation/distribution. Because of their large scale, these companies benefit
greatly from significant investment long-term assets for the sake of increasing efficiency and
reducing operation costs.
Consumers’ perception of a food company’s products are heavily correlated with the
brand value of the company, which is essential to generate more sales. A better consumer
perception can also yield customer loyalty for food products, contributing to the revenue. The
companies mentioned above depend upon the value of their brand to a large extent in order to
create sales. To ensure the continuity of those sales, companies own patents and intellectual
property rights, which are included in goodwill together with the brand value. Overall, goodwill
is an inherently important asset for a food company to generate a higher sales, thus a higher
income.
Inventory is an important account that plays a decisive role in the costs of these big
companies. Since large amounts of inventory increase the costs of storage and decrease
warehouse efficiency, having less inventory is more beneficial for companies. Furthermore,
foods expire after a certain point, therefore having a large inventory of food products will also
require the expiration dates to be tracked and managed. As a result, having less inventory cuts
costs for food companies and leads to higher profits.
Among all accounts, arguably, goodwill and intangible assets are the most important
accounts for these big food companies. Their revenues are dependent on their brand value and
recognition, which is included in goodwill and intangible assets. However, it is important to note
that goodwill and intangible assets can only be priced when a company goes through mergers or
acquisitions, as they are arbitrary accounts that can only be valued through actual offers pricing
the company as a whole.
 10-K Reports: Income Statements

PepsiCo’s business model for 2019 was productivity, meaning that they wanted to make
automated processes smoother and simpler for go-to-market information systems, as well as
optimize and simplify manufacturing internally. PepsiCo’s most important source of revenues is
its sales to retail customers in the United States, including Walmart Inc. and Sam’s Club.
Specifically, PepsiCo makes about a 33% of their sales to retail customers from NAB (North
American Beverages), making it the single product that contributes the most to total revenue.
PepsiCo’s most important expenses include SG&A and Cost of Sales if we keep their
business model in mind. SG&A includes costs of moving, storing and delivering finished
products, and merchandising activities. Cost of Sales includes raw materials, direct labor and
plant overhead, purchasing and receiving costs, cost associated with production planning,
inspection costs and raw materials handling facilities, and commodity derivative gains and
losses. These two expenses account for about $54,551 million (Cost of Sales=$29, 381 million;
SG&A=$25,170 million), making them the largest and most important expenses for PepsiCo,
keeping PepsiCo’s net revenue of $64,661 million in mind.
The business model of Tyson Foods is primarily focused around the production and sale
of protein products, with a smaller part of operations being focused on non-protein products and
processed foods. Products are marketed and sold primarily by our sales staff to grocery retailers,
grocery wholesalers, meat distributors, warehouse club stores, military commissaries, industrial
food processing companies, chain restaurants or their distributors, live markets, international
export companies and domestic distributors who serve restaurants, foodservice operations such
as plant and school cafeterias, convenience stores, hospitals and other vendors.
For Tyson Foods, their largest source of revenue comes from sales of their four main
product segments, which, in order of operating margin, are: Beef, Chicken, Pork, and Prepared
Foods. Walmart, as their largest customer, accounted for 17.3% of the company’s net sales in
fiscal year 2018. Their most important expenses were Cost of Sales (COGS) and SG&A. Cost of
Sales includes inventory costs, transportation costs, etc. and Selling General, and Administration
includes salaries and other costs not directly related to creating the products sold.
Kraft Heinz Company’s biggest source of revenue is the sales of condiments and sauces,
which accounted for 25% of net sales in 2017. In 2017, 21% of Kraft Heinz’s net sales went to
their largest customer, Walmart, a trend that has been continuing since 2015. Their most
important expense is Cost of Goods Sold (COGS), corresponding to 63% of net sales in 2017.
Following COGS was selling, general and administrative expenses(SG&A), constituting 11% of
Kraft Heinz’s net sales in 2017. In Kraft Heinz’s 10K report for fiscal 2017, they also mention
how the 2015 Merger of Kraft and Heinz affected the company’s expenses.
Common Size COGS Calculations (COGS/Net Revenue):
Tyson: $34,826 million /$40,052 million ≈ 87.2%
PepsiCo: $29,381 million/$64,661 million ≈ 45.439%
Kraft Heinz: $16,529 million/$26,232 million ≈ 63.011%
Common Size SG&A Calculations (SG&A/Net Revenue):
Tyson: $2,071 million /$40,052 million ≈ 5.17%
PepsiCo: $25,170 million/$64,661 million ≈ 38.926%
Kraft Heinz: $2,930 million/$26,232 million ≈ 11.170%

Comparison: COGS is the most expensive cost for all three of the companies, although its
weight in total revenue differs among companies. In 2018, COGS accounted for nearly 87.2% of
Tyson’s total revenue, which is followed by Kraft Heinz with 63% and PepsiCo with about
45.4%. This discrepancy is mainly due to the difference in product type between the companies,
with Tyson Foods’ protein products requiring higher costs of production than Kraft Heinz
processed foods or PepsiCo’s beverages and snacks. On the contrary, the lowest SG&A as a
portion of total revenue belonged to Tyson Foods’ with 5.2% of its revenue, followed by Kraft
Heinz with 11.2% and PepsiCo with 38.93%. This implies that Tyson Foods and Kraft Heinz are
making every efficient use of their SG&A expenses, while PepsiCo still has room to cut costs in
this area. For each of these companies, COGS and SG&A combined constituted at least 74% of
revenues. These high costs suggest that controlling production costs could be a key driver of
growth for Tyson and Kraft Heinz, while cutting sales and administration costs would greatly
benefit PepsiCo.
 10K Reports: Statements of Cash Flows

PepsiCo uses the indirect method to compute CFFO. Based on their CFFI, which
increased from 2017 to 2018, we can see that their short-term investment purchases for more
than 3 months decreased by about $13,000 million, allowing their CFFI to go from ($4,403)
million in 2017 to $4,564 million in 2018, a year-over-year growth of 203.656%.. PepsiCo’s
CFFF decreased from 2017 to 2018, from ($4,186) million in 2017 to ($13, 769) million in 2018,
decreasing by 226.779% year-to-year. This was primarily caused by an increase of cash outflow
in the accounts of cash tender and exchange offers/debt redemptions by $1,589 million and cash
dividends paid by $458 million. Thus, what we can conclude from PepsiCo’s CFFI is that they
decreased investment spending, because decreasing their short-term investments was the main
factor in allowing them to increase their CFFI. From PepsiCo’s CFFF, we can conclude that they
paid off more debt and gave more back their shareholders, which accounted for the increase in
cash outflow in CFFF.
Tyson Foods used the indirect method to calculate CFFO. From their CFFI, the cash
received from Tyson’s acquisition of Keystone foods is listed as an account in FY2018, which
accounted for the increase in net CFFI from FY2017. In addition, the amount Tyson Foods spent
on additions to plants, property, and equipment have been steadily increasing over the past 3
years, implying that Tyson is still scaling operations as their business grows year to year.
Overall, the company’s CFFI increase from ($4,164 million) to ($1,906 million) an increase of
54.2%. Looking at the company’s CFFF in FY2018, the two largest accounts by far are the
proceeds and the expenses from commercial paper, which means that the main way Tyson Foods
raises funds to finance the companies operations is through short term debt obligations, a trend
which has continued from FY2017 as well. Proceeds from commercial paper represented 87.5%
($21,024 million/$24,029 million) of the total proceedings from financing activities, while
repayments on commercial paper represented 84.3% ($21,197 million/$25,131 million) of the
total costs of financing activities.
Kraft Heinz used the indirect method to compute their CFFO. Looking at their CFFI,
Heinz’s acquisition of Kraft is an account, which comes from Kraft and Heinz’s 2015 merger.
Their CFFI decreased from $1,452 million to $1,156 million from 2016 to 2017, a 20.4%
decrease. In their CFFF, the “Proceeds from issuance of long-term debt” account keeps getting
smaller, which suggests a trend that the company issues less and less long term debt every year.
After the merger, Kraft Heinz almost tripled their dividends the very next year, from $1,302
million to $3,584 million. In the year after, they decreased dividends by 19.4% to $2.888 million.
Another important account in the CFFF section is the “Redemption of Series A Preferred Stock”,
which shows that Kraft Heinz did a stock buyback for its preferred stocks worth $8,320 million
in 2016. Beginning with 2016, the CFFF shifts from $10,047 million to $(4,621 million),
contributing factors being the downward trend in long term debt issuance and stock buyback. In
2017, CFFF continued to stay negative, only increasing 8.5% from 2016.
 10K Reports: Cash Conversion Cycle

PepsiCo
AR Turnover Ratio (Net Sales/Average Accounts Receivable)
= ($64,661 million/[($7,024 million+$7,142 million)/2] ≈ 9.129
Average Age of AR = 365/9.129 ≈ 39.982 days on)/2] ≈ 9.673 days
Inventory Turnover Ratio (COGS/Average Inventory)
= ($29,381 million/[$2,947 million+$3,128 million)/2] ≈ 9.673
Average Days to Sell Inventory = 365/9.673 ≈ 37.734 days
AP Turnover Ratio (COGS/Average AP)
= ($29,381 million/[($15,017 million+$18,112 million)/2] ≈ 1.774
Average Age of AP = 365/1.774 ≈ 205.750 days
Cash Conversion Cycle (Avg Age of AR + Avg Days to Sell Inventory - Avg Age of AP)
= 9.673 + 37.734 - 205.750 ≈ -158.343 days
Gross Margin: (Gross Profit/TR) = ($35,280 million/$64,661 million)100 ≈ 54.561%
Operating Margin: (Operating Profit/TR) = ($10,110 million /$64,661 million)100 ≈ 15.635%
Net Margin: (Net Income/TR) = ($12,559 million/$64,661 million)100 ≈ 19.423%
Comments: PepsiCo decreased their current assets from 2017 to 2018, and increased their
current liabilities, showing that they are efficient in managing their working capital because their
working capital got more negative year over year. PepsiCo’s profitability is not as good as it
could be, because its high gross margin does not translate to high operating and net margins. This
means that PepsiCo’s operating costs are high, and thus, decreases its core business profitability
and shareholder profitability.

Tyson Foods
AR Turnover Ratio = 40,052 million/[(1,723 million + 1,675 million)/2] ≈ 23.574
Average Age of AR = 365/23.574 ≈ 15.483 days
Inventory Turnover Ratio = 34,926 million/[(3,513 million + 3,239 million)/2] ≈ 10.345
Average Days to Sell Inventory = 365/10.345 ≈ 35.283 days
AP Turnover Ratio = 34,926 million/[(1,694 million + 1,698 million)/2] ≈ 19.075
Average Age of AP = 365/19.075 ≈ 19.135
Cash Conversion Cycle = 15.483 + 35.283 - 19.135 ≈ 31.631 days
Gross Margin: $5,126 million /$40,052 million ≈ 0.128 = 12.8%
Operating Margin: $3,055 million /$40,052 million ≈ 0.0762 = 7.62%
Net Margin: $3,027 million /$40,052 million ≈ 0.0756 = 7.56%
Comments: Tyson Foods’ working capital in FY2018 is $5,688 million - $5,031 million = $657
million which is only 1.64% of their total revenue, which decreased from $2,226 million in
working capital in FY2017 which means they are borrowing effectively from lenders, but the gap
between their gross and operating margins implies that their operating costs are still cutting
significantly into their profits, which implies that there is space to cut costs.

Kraft Heinz
AR Turnover Ratio = $26,232 million/([$1,856 million+$1,158 million]/2) ≈ 17.407
Average Age of AR = 365/17.407 ≈ 20.969 days
Inventory Turnover Ratio = $16,529 million/([$2,815 million+$2,684 million]/2) ≈ 6.012
Average Days to Sell Inventory = 365/6.01 ≈ 60.712 days
AP Turnover Ratio = $16,529 million/([$5,020 million+$4,666 million]/2) ≈ 3.413
Average Age of AP = 365/3.413 ≈ 106.944 days
Cash Conversion Cycle = 20.969 + 60.712 - 106.944 ≈ -25.263 days
Gross Margin: = 9,703/26,232 ≈ 36.989%
Operating Margin = 6,773/26,232 ≈ 25.820%
Net Margin = 10,990/26,232 ≈ 41.895%
Comments: Kraft Heinz is a very profitable business, with a net margin of nearly 42%. It is
interesting how Kraft Heinz’s net income was higher than their operating income in 2017, which
is caused by income tax benefits coming from the US Tax Reform. They have increased their
total current liabilities by nearly 17% while decreasing their total current assets by nearly 6.6%
from 2016 to 2017. As a result, they have successfully minimized their working capital, which is
desirable in order to have more cash to use on hand.
 10-K Reports: Statement of Shareholder’s Equity

PepsiCo paid dividends to its shareholders worth $4, 930 million, an increase from 2017
where it only paid $4,472 million in dividends. The corporation repurchased $2,000 million in
common stock, and $2 million in preferred stock. Although the firm’s repurchasing of common
stock is the same as their repurchasing in 2017, the firm decreased its repurchasing of preferred
stock from 2017 to 2018 by $3 million. Interestingly, because of stock buybacks, PepsiCo’s EPS
increased from $3.40 in 2017 to $8.84 in 2018. Moreover, PepsiCo did not issue of new long-
term debt in the year of 2018. Overall, PepsiCo has kept a fairly consistent year-over-year
financing cash outflow for repurchasing stocks while simultaneously increasing its shareholders
equity because of its increased net income from year to year.
Tyson Foods didn’t issue any new equity in FY2018 to raise capital, but the company did
issue $1,148 million in long term debt. As mentioned previously, the company also listed a large
amount of short term debts in the form of commercial paper, but much of that balance was also
repaid within the same year. Tyson Foods also paid out $431 million in dividend in 2018, and in
spite of this, earnings per Class A Basic share of Tyson increased from $4.79 to $8.44 from 2017
to 2018, an increase of 76.2%.
Kraft Heinz issued paid dividends worth $2,888 million to common stockholders in 2017,
which is down 19.4% from the year before. In 2016, the company bought back all of its preferred
stocks, which explains why the dividends paid to preferred stocks ended all of a sudden in 2017.
On June 7, 2016 Kraft Heinz finished buying back all of their preferred stocks, represented as a
$8,320 million cash outflow in the CFFF section. After the Kraft and Heinz’s merger in 2015,
the company recorded $10,000 cash inflow under “Proceeds from issuance of common stock to
Sponsors”, which stems from how the Kraft shareholders were entitled the same amount of
shares in the merged company.