Sunday 15 July 2012

Britvic "Recap!"

Britvic @ 273.10p, +12.4p (+4.76%).


I've been taking a look at Britvic following the recent forecast impact to earnings that stems from its Fruit Shoot recall and recap issue (ROBINSONS FRUIT SHOOT AND FRUIT SHOOT HYDRO PRODUCT RECALL).

Following the recent introduction of a new cap to its Fruit Shoot range the company has subsequently found/been made aware of a possible choking concern and as a result has undertaken a precautionary recall.
The initial accompanying statement suggested a possible profit impact of £1-£5m in the current financial year.

However, further investigation and a second statement has raised this possible financial impact to £15-£25m across the current and next financial year (UPDATE STATEMENT ON ROBINSONS FRUIT SHOOT AND HYDRO PRODUCT RECALL).
So thats a longer than 6 month resolution then!

As a result the shares have fallen from 335p on the 2nd July to 304p then 260p before joining in Friday's global rally on (very) speculative takeover talk.
Britvic has previously been touted as a take over target for private equity buyers, following a pair of profit warnings in 2006, but the Pepsico licensing deal was seen as a potential obstacle (http://www.scotsman.com: Britvic braced for £600m takeover bid from Permira). 

But that aside, I was interested to see what the underlying business looked like and whether this might present a medium term opportunity to buy into the UK's largest still drink manufacturer, through such as its Robinsons brand, and the UK's second largest second largest supplier of carbonated drinks through Tango and its exclusivity agreement with Pepsico.
The company was originally floated in 2005 at 230p, and was born from a demerger of assets by Whitbread, InterContinental, Allied Domecq and PepsiCo

As of close of play on Friday the shares (prior to any downgrade of estimates), stood on a forward price to earnings of 8.2 and a forecast yield of 5.9%.

But it doesn't yet look as if the revised guidance numbers have filtered through into consensus estimates given that on Digitallook the revenue forecast for 2012 remains in the region of £1.3bn with a pre-tax profit forecast of £109m.

So if the full £25m impact came through at this point it would drag the forecast profit figure down to £84m which would still be an increase on 2011's published figure of £79.9m.

Looking at the historical trend, revenue has increased in each year from £716m in 2006 to £1290m in 2011.
Profits have fluctuated somewhat though with dips in 2008 then a loss in 2010 of £28.8m following net exceptional costs of £137m.
In the main this looks to be related to write downs in the Ireland business following that country's economic woes.

On the face of it, it should feel like quite a defensive business given its position within the branded consumer still/soft drinks market.
And the Pepsico agreement was extended to 2023 following the company's flotation and listing on the LSE.

The company's strategy is built upon:
- low single digit improvements to margins and revenues in its mature markets.
- mergers and acquisitions in Europe
- international export e.g Fruit Shoot was launched in the US in 2010 through retailers Coles and Woolworths.
- licensing and franchising outside of Europe

However, as a result of ongoing write downs and the acquisition element of the strategy, I've found the financials a little difficult to understand given the resulting huge net debt gearing figure of 2356.44% (no I haven't got the decimal point wrong!).

Operating margins (ignoring the loss in 2010), have hovered below 10% since the global economy deteriorated and commodity prices increased.

The big concern is the £1bn or so of short and long term liabilities which quash the net asset position to just £22.5m. The bulk of which, £600m, appears to be made up of loan notes. The interest paid was just £14.8m (in the 6 month interim) though, as opposed to the full year figure £31.4m in 2011 so that would be just over 5% in interest payments.

There appears to be a pension deficit as well which, following the company's most recent efforts has been reduced to £16.7m (in the interim results), from £45.1m (2011).

The nature of international business these days also means that the company is operating with a currency hedging strategy which had a negative impact of £3.9m in the interim results.

The 2011 full year dividend returned £40.3m to shareholders which equates to 17.7p per share and about half of the reported £79.9m pre-tax profit figure. So that's somewhere close to a twice covered dividend.

Heavily indebted then with low margins but having a twice covered dividend, the company is heavily dependent upon the continuation of its cash flow which, at 52p per share (2011) was comfortably higher than the 2011 earnings per share (pre-tax profit/shares in issue), of 33.41p per share. 
This would normally be enough to comfortably alleviate any short term credit requirements but, in this case, the financial impact from Fruit Shoot needs to be considered alongside the reduced cash position that has been reported.

Looking at the asset side of the balance sheet, there is a relatively high intangibles figure of £337.9m (2011). Not desirable but much as you would expect given the company's stated intent to acquire to grow.
2011 stocks stood at £88.5m v £45.3m in 2007. 
There is also some kind of "trade and receivables" categorised in both assets and liabilities, which has also doubled over the same period.
Given the 80% increase in revenues from 2007 to 2012, these would all seem to be volume related and, therefore, assumed to be in control.

It initially looks like cash has also increased in a similar manner to £43m (£27.3m: 2007) but it also looks like this has been used in the acquisitions strategy and stands at just £2.9m in the latest interim presentation for the period ending April 2012.

So not a straight forward investment decision. It looks attractive on previous consensus forecasts and has been pulled back from 52 weeks highs of 398p by the Fruit Shoot issue.

The company is in an attractive consumer segment with access to recognisable brands and, historically at least, has had a strong cashflow to service its debt mountain as well as an attractively growing dividend.

But it is the debt mountain that is a concern to me and whether this outweighs the "future" value, strengths and appeal of the brands that the company markets.
The cash flow seems to service it but as shown with the current Fruit Shoot issue (shooting itself in the "fruit"), the company is not immune to creating its own problems and it remains to be seen if this becomes a more expensive issue than the company has estimated. 
Will customers defect to another brand in the time that the company is taking to resolve the issue. 
On the positive side it appears that the company has "capped" off the issue before anyone was hurt so could well have limited the damage to replacing the caps and further R & D to resolve the problem cap.

The dividend and discount to its 52 week high is also attractive and the question over the invisible value of the brands might well have been answered by its current share price weakness immediately leading to analysts touting the weakness as a possible opportunity for rivals to acquire the company.

I like the pros but given the cons I'm still not sure if it appeals to me despite the obvious value in the brands.
It seems to be yet another company leveraged up against future (potential) profits so it comes down to belief in the strength of the brands, the future cash flows that can be derived from them, and the company's ability to maintain cash flows in the short term in order to continue servicing that debt.
I would continue to hold them if I had them but they don't yet look like a straight forward buy for me without recognising, rationalising, and mitigating (to my mind), the risks identified.

Posted by MAd at 19:58
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2 comments:

  1. dave16 July 2012 at 18:15

    Thanks for the great write up.

    I was about 30 seconds from a buy order this morning before reading your article in my rss feed. I think it looks cheap at the moment but the huge debt is clearly an issue and if this year's profits are written off then how are they going to service that?
    Still the company is clearly an interesting one and looks like the sort of long termer that you should have in a decent portfolio. I'm going to keep watching it and hold off until it hopefully falls nearer £2.00

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  2. MAd16 July 2012 at 20:49

    Hi Team Dave,
    thanks for reading and glad you found it useful

    MA

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