Age begins to tell at Wetherspoon

INVESTMENT COLUMN

Most people only dream about what Tim Martin, chairman of J D Wetherspoon, has achieved - finding a gap in the market, filling it and making a handsome fortune in the process. Not that his fellow shareholders will begrudge the dropped-out barrister his pounds 40m, 18 per cent stake in the independent pub operator he founded 12 years ago. Since flotation three years ago, their shares, down 7p to 630p yesterday, have quadrupled.

It is a simple concept. Wetherspoon buys large high street premises - often former banks or car showrooms - gets change-of-use permission and turns them into clean, attractive pubs with a good range of relatively cheap beer. Not surprisingly, the new pubs tend to wipe the floor with the existing dingy boozers in the vicinity and Wetherspoon's expansion has been dogged by spoiling attempts by the big brewers and other vested interests.

Figures for the year to July showed that the remarkable growth of the past few years continues, with pre-tax profits up 50 per cent to pounds 9.7m from a 47 per cent rise in sales to pounds 68.5m. Following last year's rights issue, earnings jumped less, by one-third to 24.6p, allowing a 21 per cent hike in the payout to 8p.

Good as the figures were, they were a fraction below the market's consensus forecast and, reading between the lines, a number of concerns are emerging. Not massive worries, but when a share is as highly rated as Wetherspoon has become the smallest cracks can unsettle investors.

First, cashflow. Wetherspoon is expanding fast, more than two new pubs a month, and soaking up about pounds 30m a year in the process. Last year free cashflow amounted to just over pounds 10m, leaving a substantial shortfall. Over the next five years, in addition to existing banking lines, perhaps pounds 50m will be required, so expect another rights issue.

The other main worry is the ageing of the group. As the years pass, a greater proportion of the portfolio is accounted for by pubs more than three years old. In that context, like-for-like sales growth of only 3 per cent in the second half of last year, compared with 10 per cent in the first, is not surprising and probably what investors should expect. Growth from now on will only come from adding new sites.

Those are the caveats. They should not detract from projected profits this year of pounds 12.25m and earnings per share of 31p. With that sort of growth, a prospective price/earnings ratio of 20 is probably justifiable, but the best of the run must have already happened.