Buffett’s Startling Lack of Diversification (Part Two): The Logic Behind a Massive Coke Position

There were more than 200 billion servings of Coca-Cola (KO) beverages served in 1988, the year Berkshire Hathaway (BRK.B) began to build its Coke stake. Not exactly a start-up in its embryonic stage, eh?

In 2011 Coca-Cola reported global downing of its beverages -- owned and licensed -- hit north of 620 billion servings, or about 1.7 billion a day. Coca-Cola is the most iconic of Buffett’s “Inevitables,” his term for the global behemoths he favors for Berkshire’s investment portfolio. Buffett built the Coca-Cola position over a six-year span, spending $1.3 billion in total. He hasn’t bought -- or sold -- a share since 1994. The recent market value for that investment is $15 billion. At 20% of the Berkshire Hathaway investment portfolio it is the firm’s single largest investment. (Berkshire also happens to be Coca-Cola’s biggest institutional investor, holding nearly 9% of the outstanding stock.)

Berkshire’s other giant holdings are Wells Fargo (WFC), American Express (AXP) and International Business Machines (IBM), with the four comprising a startling concentration of risk – 70% of Berkshire’s $75 billion investment portfolio.

Consistent profit growth is at the heart of explaining the 10-fold increase in Berkshire’s investment. Since 1995, Coca-Cola’s earning path has been a step ahead of it chief rival PepsiCo (PEP).

KO EBITDA TTM Chart

KO EBITDA TTM data by YCharts

No doubt helping Buffett sleep well with a 20% bet on this one stock is the fact that Coca-Cola is one of the most geographically diversified companies. Coca-Cola products are sold in more than 200 countries, and last year about 80% of its profit came from outside the United States. And as seen in the hell-fire of 2008, via a stock chart, Coca-Cola holds on pretty well. While we aren’t likely to buy a car or new wardrobe in the midst of a global recession, well, beverages are always in-budget.

KO Chart

KO data by YCharts

As Buffett expects from his Inevitables, the consistent profit growth has meant consistent dividend growth for Berkshire Hathaway shareholders. In last year’s annual report Buffett noted that in 1995-the first year after he finished building the Coca-Cola position-Berkshire was paid $88 million in dividends. Last year the payout was $376 million, and Buffett is on record saying he expects Berkshire’s dividend payout from Coca-Cola to double in 10 years; the current dividend yield is 2.7%. That impressive growth would actually represent a significant slow-down compared to the past 10 years.

KO Dividend Chart

KO Dividend data by YCharts

Buffett also noted that by 2021 he expects Berkshire’s share of Coca-Cola earnings to be worth more than the $1.3 billion he plunked down in the company. “Time is the friend of the wonderful business,” Buffett wrote in last year’s annual report. That said, Buffett would also be quick to point out it’s the price you pay that matters. And Coca-Cola isn’t delivering a margin of safety for fresh investment today. Its current 20 PE ratio is well above the 16.6x average PE S&P Capital IQ forecasts for consumer staples this calendar year.

Carla Fried is a contributing editor at YCharts, which includes the just-released YCharts Pro Platinum for professional investors.

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