Leading analyst Jamie Rollo at Morgan Stanley has downgraded his Enterprise Inns rating from Overweight to Equal-weight as he believes the Government’s MRO proposal looks likely to create an extended period of uncertainty and pushes out the possible resumption of a dividend.
Rollo said: “While these risks are arguably priced in on a FY15 P/E of 6.3x, the shares are not that cheap on PLC FCF (6% yield including disposal proceeds) now that Unique is trapping cash. We reduce our price target from 200p to 130p, and while this still suggests good upside, our new bear case of 70p suggests there could still be further downside to the shares.
“First, the proposed “market rent only” (MRO) option seems set to become law this year, and even though it will take up to 5-7 years to implement, with some of the potential £25m impact we estimate offset by rent increases and cost reductions, we think the immediate impact will be uncertainty for investors as the pubcos undertake more radical restructuring.
“This could include accelerated disposals of less viable pubs (EPS/FCF dilutive if used to pay down debt), offering more favourable terms to lessees to lock-in contracts for attractive pubs (impacting near-term LfL net income, and creating a bigger managed house division (greater upfront costs).
“Second, its recent bank refinancing means Enterprise no longer needs to use the inter-company loan to Unique to upstream its dividend (important for covenant purposes), thus bringing to light the lack of FCF available in Unique (whose fixed rate notes are now amortising), meaning 45% of reported EBITDA and c. 67% of FCF is effectively trapped in Unique, giving a real PLC clean FCF of just £10m (£33m incl. disposal proceeds) suggesting only 2% FCF yield (6% incl. disposals).
“We take a more conservative approach to valuation, and lower our PT from 200p to 130p.”
