COCO - Vita Coco: Future Growth Potential Is Fairly Valued

2024-01-21 08:23:51 ET

Summary

• Vita Coco sells beverages through four brands, including coconut water, plant-based energy drinks, and purified water.
• The company has grown quite well organically, but the growth is expected to slow down in 2024. Afterwards, Vita Coco has good growth ambitions.
• The stock currently seems to be valued fairly, as the DCF model estimates a very slight upside in a scenario that's in line with the management's guidance & targets.

The Vita Coco Company, Inc. ( COCO ) sells beverages through four brands - Vita Coco, Runa, and Ever & Ever. Vita Coco sells coconut water and related products, Runa sells plant-based healthy options for caffeinated energy drinks, Ever & Ever sells purified still and sparkling water in recyclable aluminum bottles, and PWR LIFT, a protein-rich drink for fitness. In addition, the company gets revenues from private label sales.

The company had an IPO in late 2021 and started trading publicly in October 2021. Since then, the stock has been on quite a good run, appreciating 81% from the initial trading price at the time of writing.

Earnings Are Growing, But Don't Expect Too Much

Vita Coco is growing its revenues organically. From 2019 to current trailing revenues as of Q3/2023, the company has achieved a CAGR of 16.1% in revenues. In line with previous years, the company is guiding for a 2023 growth of 13% to 15%, corresponding to a slightly lower Q4 growth of 8.9% with the middle point of the guidance. In the company's Q3 earnings call , CFO Corey Baker mentioned that a private label transition will negatively impact Vita Coco's revenues in 2024. Corey Baker expects that the company's revenues will only grow by low single-digit percentages - the historical CAGR isn't going to be achieved in several upcoming quarters.

For the long-term future, Vita Coco targets sales growth in the mid-teens and an adjusted EBITDA margin in the high teens. While the growth ambition is quite good, investors need to factor in that the sales growth target also includes potential M&A - on an organic level, I expect the growth to be lower. Vita Coco has achieved the targeted mid-teens level organically in past years, but as the revenues scale, the same percentage growth translates to a higher absolute amount. Vita Coco currently has around $95 million in cash on the company's balance sheet with virtually no debt, potentially positioning the company for growth through M&A.

Vita Coco's 2023 guidance's middle point implies an adjusted EBITDA margin of 13.4%. The company targets a high teens level, representing a significant amount of operating leverage. Vita Coco expects the margin to stay flat for 2024 as the growth is also expected to come in slower, but to start achieving margin expansion afterward with improved gross margins. In many ways, 2024 is looking to be a year in between earnings growth - investors shouldn't get too excited about future growth, but also shouldn't overlook the overall growth story as 2024 figures come in softer.

A Balanced Valuation

Vita Coco's GAAP earnings have varied quite a lot, so I believe that an EV/EBITDA ratio is more representative of a comparison in long-term valuation changes. Currently, Vita Coco trades at a forward EV/EBITDA of 17.1, near the all-time mean of 19.6. While not an extraordinarily high ratio for beverage companies, the ratio does seem to already price in a good amount of further growth.

To estimate a fair value of Vita Coco's stock, I constructed a discounted cash flow model in my usual manner. In the model, I factor in a scenario in line with the management's medium- and long-term targets; I factor in revenue growth of 14% for 2023 in line with the guidance, and a 4% growth for 2024 in line with the outlook given in the Q3 earnings call. Afterward, I estimate the growth to accelerate to 11% in 2025. The level is lower than Vita Coco's mid-teens target, as M&A isn't factored into the model. I estimate the growth to slow down in steps into a perpetual growth rate of 2.5%, representing a total revenue CAGR of 7.5% from 2022 to 2032.

I also estimate a margin expansion that is quite in line with Vita Coco's long-term target. After a 2023 EBIT margin of 11.3%, I estimate the margin to stay flat for 2024, but to start increasing afterwards. I estimate the EBIT margin to expand by 2.7 percentage points to 14.0%. While Vita Coco's high teens adjusted EBITDA guidance could also relate to a higher margin than I estimate, I believe that a 14.0% EBIT margin is a fair assumption before better leverage is demonstrated. Vita Coco has an astoundingly low level of capital expenditures and quite an asset-light operating model, making the company's cash flow conversion quite good even with revenue growth.

With the mentioned estimates along with a cost of capital of 7.94%, the DCF model estimates Vita Coco's fair value at $24.11, around 8% above the stock price at the time of writing. The stock seems to be priced for the performance that Vita Coco guides and targets for - I don't see a very high risk-to-reward investment case at the moment, although the investment doesn't seem bad either.

The used weighted average cost of capital is derived from a capital asset pricing model:

Vita Coco doesn't have a notable amount of interest-bearing debt. I expect the capital structure to stay similar with a 0% long-term debt-to-equity ratio. For the risk-free rate on the cost of equity side, I use the United States' 10-year bond yield of 4.14% . The equity risk premium of 4.60% is Professor Aswath Damodaran's latest estimate for the United States, made on the 5th of January. Vita Coco has been listed quite recently, so the stock doesn't have a reliable beta - instead, I use Aswath Damodaran's beta estimate of 0.76 for the soft beverage industry. Finally, I add a small liquidity premium of 0.3%, crafting a cost of equity and WACC of 7.94%.

Alternative Upside

In a November report from Axios Pro, Vita Coco has reportedly communicated that the company is open to being acquired. The report came after PAI Partners acquired Tropicana, and the company is told to be looking for additional acquisitions in the industry. Vita Coco fits the criteria quite well, making an acquisition possible although still very speculative at this point.

Other positive news could also cause great short-term upside on the stock, as Vita Coco's short interest stands at a surprisingly high 15.00% at the time of writing. Positive news could potentially squeeze the stock's shorts, causing short-term upside. I don't see the short interest as a fundamental reason to invest, though, and only a potential factor for share appreciation that investors should note.

Takeaway

Vita Coco has grown well in recent years. While 2024 is looking to be low in growth, the company still has respectable earnings growth plans for the longer-term future. The revenue target of mid-teens growth does include M&A, so investors shouldn't expect the growth to organically grow at quite the historical pace going forward. The stock seems to be priced for the guided and targeted financial performance, not really bringing significant potential upside unless the company is bought out. For the time being, I see the risk-to-reward as quite balanced, constituting a hold rating.

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