Company Spotlight: 'All canny investors have to do is find that Garp in the market'

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The Independent Online

As the economy picks up speed, watch out for Garp. Not to be mistaken for a book, a bird or a plane, Garp stands for Growth at a Reasonable Price, a cheaply valued share that also offers the potential of above-average growth in earnings. A Garp offers investors the best of both worlds, a fast-growing company at a bargain price.

As the economy picks up speed, watch out for Garp. Not to be mistaken for a book, a bird or a plane, Garp stands for Growth at a Reasonable Price, a cheaply valued share that also offers the potential of above-average growth in earnings. A Garp offers investors the best of both worlds, a fast-growing company at a bargain price.

These are the reasonably valued stocks investors are more willing to buy in the early stages of a stock market recovery when confidence and sentiment is still skittish. Glamorous, premium-rated growth stocks tend to come into vogue later, when the bull market gets into full swing.

Ultimate Leisure, the Geordie bars and night clubs operator with £51m stock market value, is a good Garp candidate. It has a solid record of profits growth over the past four years, a trend likely to be confirmed by its full-year results due on 10 September. But the shares have yet to attract a premium rating, largely because it has been tarred with the same brush as rivals that struggled with fierce competition and industry over-expansion, particularly in the south of England.

Ultimate, based in Newcastle-upon-Tyne, floated on AIM in July 1999 at 145p but its shares barely moved for more than year because it was little-known to institutional investors. Although the shares have doubled since, they still look cheap for a company that has delivered more than 20 per cent annual earnings growth in the past four years. The company operates 26 bars and nightclubs, and this month acquired three more sites for £4.2m in Belfast. The group focuses on large, urban sites on busy drinking circuits, aimed at young, high-spenders. A focus on big venues means it faces relatively long lead times to open new sites, but the emphasis on location and size appears to have paid off. Operating margins, at 30 per cent, are among the highest in the industry and the group's return on equity is in the high teens.

Trading has been strong for the year ended 30 June, 2003, setting up the share price for a possible rerating. Its flagship venue in Belfast, opened in April with capacity for 1,300, regularly draws long queues of revellers. Its performance has exceed expectations and could contribute close to £1m at the operating level in the first full year of trading.

Although the aggressive expansion pushed up group debts to 71 per cent of net assets at the half-year stage, the group has ample room to meet its debt payments. Interest cover is at a comfortable six times operating profits. Durlacher's leisure analyst, Ian Berry, also says that because the majority of the group's operations are freehold, its fixed charge cover is about 4.5 times. This is by far the highest cover of any bar operators and well above rivals such as Regent Inns, Wetherspoon and Yates.

In a trading update on 9 July, Ultimate told shareholders pre-tax profits for the year ended 30 June will be at least £6.7m, a 28 per cent increase on the previous year. It also said it would maintain its long-term growth rates. Apart from its operational strengths, Ultimate is also likely to benefit from late-opening licences. So far, only one big site in its home town has a 2am license though it hopes to gain more. And a benign UK economy, with low unemployment and mortgage rates, has also been a boon to consumer spending over the past few years.

For now, these factors should continue to work in favour of the group. But if the economic climate were to turn cloudy, Ultimate's prospects are more than likely to suffer. Large sites are also more expensive to run and there are fears that the number of bar and nightclub venues will eventually reach saturation levels in the industry, making life difficult even for the best-run operators.

Another risk is that the group's management, led by chief executive Allan Rankin, may slacken their capital discipline and pay too much for new sites or overspend on decorating existing sites. Good sites tend to attract a lot of buyers and it will be vital for the group not to chase growth at any cost.

Still, the medium-term outlook for Ultimate looks buoyant and its low share price discounts a large measure of downside risks. At 291p, the shares are valued at 11 times for the year just ended. For the year to next June, analysts expect taxable profits to rise to £7.8m, lowering the share rating to 9.5 times forecast earnings for 2004. That looks miserly for a company that has shown strong growth and offers a 1.8 per cent dividend yield.

Neil Thapar is equity strategist at the stockbroker Durlacher

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