Leading sector analyst Douglas Jack has upgraded his recommendation for Mitchells & Butlers (M&B) to Add from Buy following a recent rise in its share price, despite an increase in its pension deficit.
Jack, of Numis, issued a Target Price of 450p for the managed operator, which reported its half-year results last week.
He said: “M&B is setting out plans to increase expansion, LFL sales and margins. As a result, we believe our cautious forecast assumptions offer attractive medium-term upside, with or without better weather or macroeconomic growth. However, following a c20% rise in the share price over the last three weeks and a c50% increase in the pension deficit, to c.£0.6bn, we are moving our recommendation to Add, from Buy.”
Jack pointed out that like-for-like sales at M&B, which were up 0.4% after 33 weeks, are forecast to rise 1% this year, aided by easier comps, and by 0.5% in both 2014E and 2015E. “There are numerous ways to surpass this: so far, only 300 of 1,582 pubs have completed the roll out of the ‘Ways of Working’ service culture (the initial roll out should take another year); training and development is being stepped up; and labour is being increased during peak trading.”
“The ‘Heartland’ value-food brands (Crown, Oak and Sizzling) took over 1% off group LFL sales in H1. This was partly due to losing barely profitable food volumes (caused by price increases) and also partly the result of previous efforts to reposition too aggressively towards food. Management believes this segment could return to LFL growth within a year, aided by reintroducing Sky television (already done in 100 sites), adding higher-margin non-Carvery dishes and passing on efficiency gains.”
Jack added: “Margins, which rose 40bps in H1, are forecast to fall in H2 and also in both 2014E and 2015E. Margins are most sensitive to LFL sales, which management is trying to grow, outweighing a slightly negative initial impact from faster expansion. Also, management believes there is margin upside from better stock systems and from the roll out of new EPOS and hand-held ordering/payment systems over the next three years.
“The pension deficit now looks likely to be as large as £0.6bn. Annual cash contributions, which could rise to £50m+ from £40m pa, are subject to negotiations with the trustees that must complete before July 2014. As a result, a reinstatement of the dividend is unlikely to occur before the 2014 interim results.
“We believe M&B’s forecast expectations are understated, which one should not misinterpret as a lack of ambition, following a 17% increase in earnings in H1. With an improving outlook for LFL sales and margins, we would accumulate the shares, albeit with our enthusiasm tempered by the lack of dividend.”
