THE INVESTMENT COLUMN
Shares in brewing and pub companies are enjoying one of their best runs for several years, with many hitting fresh all-time highs on a daily basis. There are good reasons for the sector's return to favour, recently capped by Greenalls' elevation into the FT-SE 100 index, and with the trading outlook favourable, the good news should continue to flow.
One of the main reasons for the buoyancy has been the recent wave of takeover rumours in the stock market, but behind that lies an encouraging and radical reshaping of the industry in the wake of the controversial forced disposal of thousands of pubs by the big brewers.
Most companies in the sector are happily counting the returns to be made from investments in premium beer brands and new pub concepts, particularly those concentrating on the food and family markets.
Food retailing in pubs has taken on a whole new meaning. The curled-up cheese sandwich has been replaced with a good-quality, value-for-money food offering, which is rapidly snatching market share from roadside restaurants.
There is still a great deal of work to be done before the pub industry can seriously boast about its achievements but it is heading in the right direction. The good news for shareholders is that the rejuvenation will more than likely be accelerated by a wave of mergers and acquisitions.
The same is largely true for the brewing industry which, apart from the Scottish & Newcastle takeover of Courage, has yet to witness the high degree of consolidation that had been predicted. A takeover of Carlsberg Tetley by either Bass or Whitbread is the next logical step. And when, rather than if, it happens a ripple of opportunity will flow across the sector.
To overcome competition problems, Bass and Whitbread would probably have to concede some control over the retail market by cutting large parts of their tenanted estates free-of-tie. That would open the door to other brewers to pitch for business, and for pub operators to make bids for chunks of the estates.
Moreover, the loser would be left with little to buy other than a top- notch regional brewer such as Greene King or Marston, Thompson & Evershed. Both have beer brands that would appeal to Whitbread and Bass, and their respective pub estates could be floated as separate entities.
Several pub companies may also soon have to battle to remain independent as the big guns look to aggressively churn their pub estates, by casting aside so-called "bottom of the barrel" outlets and buying larger, and not necessarily food driven outlets. JD Wetherspoon and Regent Inns fit this particular bill nicely, and have the added bonus of being located in the South-east, where leisure spending is recovering strongly.
Prowting feels the squeeze
The profit warning from Prowting yesterday was a telling reminder of how difficult life can be for a sector's minnows when the big boys scrabble to maintain their share of a declining market.
After a buoyant September and October, the South-east of England housebuilder suffered in the run-up to Christmas as bigger companies with December year-ends slashed prices to make sure their full-year volume numbers looked respectable. To keep its own sales rolling, Prowting was forced to follow suit.
As a result profits are now unlikely to exceed pounds 6m for the year to February, which compares unfavourably with last year's pounds 9.6m and falls even further short of expectations last summer that profits might be more than pounds 12m.
It was little wonder in those circumstances that the share price tumbled from 113p to as low as 88p at one stage, before bouncing to 102p on vague rumours that Beazer, stung by its failure to buy Trafalgar House's Ideal Homes, might be on Prowting's trail.
Whatever the merits of that piece of market gossip, Prowting has some serious thinking to do about its future in a sector which is increasingly dominated by a handful of large builders. Having seen its shares halve since the beginning of 1994, Prowting's market value is well short of pounds 100m, at which level it can only hope to have any clout if it develops a viable market niche such as the upmarket homes built on small city centre sites that have done so well for Berkeley.
Either that, or it must just assume, as some analysts are, that as the market improves from the madness at the end of last year there will be room for more than the biggest players to make a sensible profit. Prowting has the reputation for being one of the better-managed companies in the sector, so if anyone can ride the recovery it probably can.
On a prospective price/earnings ratio of 15, assuming profits of pounds 8.4m in the year to February 1997, the market is giving management, and the market, the benefit of the doubt. That is probably fair, but don't expect any fireworks after yesterday's disappointment.
Holding pattern over BAA
BAA shares have been marking time lately, and until a number of big issues are resolved they are likely to continue to do so. Yesterday's third-quarter results were, if anything, better than expected, but failed to ignite the interest of investors, who seem to be looking to the long term.
Pre-tax profits for the nine months of pounds 374m - including pounds 13m of property disposals - revealed continued weakness on the passenger side, offset by rising income from retail and property. BAA has been hit by competition from the Channel Tunnel and the depressed European holiday market, and growth in the number of passengers using the company's seven UK airports was 5.9 per cent.
Heathrow was particularly affected, with passenger growth of 4.8 per cent. It meant that total income from traffic and airport charges increased by 4.5 per cent to pounds 380m.
BAA is, however, still finding new ways to relieve bored travellers of their cash while they kill time at airports. Net retail income was up 10.3 per cent to pounds 313m and is expected to grow. BAA is adding another 262,000 square feet of retail space, to bring its total to 900,000 sq ft by 1998. The profit figures were also boosted by property income of pounds 157m, up 11.4 per cent, and an easing of capital spending.
Full-year profits forecasts are being held at about pounds 410m. The shares were down 3p yesterday to 486p, putting them on a price/earnings ratio of 14. That is not expensive, but then investors have plenty of reason for caution. The Terminal 5 inquiry is under way, duty-free sales are coming to an end in 1999, and there is a review of airport landing charges.
On top of that, we still do not know the cost overrun for the Heathrow Express tunnel collapse. All of this will continue to generate uncertainty.
Better news is likely to come from expansion of BAA's interests overseas. Whether this is through outright acquisitions or management contracts, BAA would desperately like to build up a secure earnings stream from outside the UK. The company yesterday raised pounds 250m from a bond issue for "general corporate purposes", which no doubt includes acquisitions. Although the privatisation of Australia's airports has been delayed, BAA is not short of other opportunities. The takeover of Naples airport is a possibility, as are operations in South Africa.
Meanwhile BAA shares, which have underperformed by 15 per cent in the past year, may suffer further weakness. Hold.
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