Jamie Rollo at Morgan Stanley takes a look ahead to the Q3 update from Spirit Pub Company, which is due on 19 June, and says he expects trading to have improved across both its managed and leased divisions following a disappointing start to the quarter, but warns that the group needs an acceleration in profit growth in H2 to make our and consensus FY forecasts.
He said: “We expect trading to have improved in both the Leased and Managed estates given weak comps and a return to more normal weather patterns. For H2, we expect revenue of £373m (+2%), EBIT of £62.5m (+6%), PBT of £35.0m (+11%), EPS of 4.04p (+12%), and DPS of 1.36p (+5%). We are broadly in line with consensus for the full year, but with Spirit needing 11% PBT growth in H2 to hit consensus, up from 3% in H1, we see some downside risk to forecasts.
“We are Underweight the shares as we are concerned about Spirit’s weak FCF generation, rigid debt structure, and poor Leased pub performance, and we expect LfL sales to slow once capex levels.”
Rollo said that like-for-like sales across the group’s managed estate were disappointing in H1 at +1.4% (vs. +4.8% in 2012) and -4.1% in the four weeks to 30 March, which was impacted by poor weather and tough comps.
He said: “Comps get easier from April due to the poor weather in 2012 and we will look for an improvement in the rest of Q3. Spirit needs around +4% LfL sales in H2 to hit our full year estimate of +2%, although it appears Spirit is no longer outperforming peers and we see some downside risk as capex slows. Spirit completed 50 refurbishments in the first half, meaning 86% of its estate is now invested and branded and we assume 130 refurbishments for the full year, in line with company guidance.
“We will also look for comments on margins, which were up 150bps in H1 at the EBIT level, although around 50bps of this was from lower depreciation, which reflects the write-down of pub assets at year-end.”
Like-for-like net income across the company’s leased estate was -2.9% in H1, with the rate of decline accelerating from Q1 (-3.3%) to Q2 (-4.2%) and the four weeks to 30 March (-4.8%).
Rollo said: “This is worrying given Q2 marked the anniversary of the rent reviews, although comps should get easier from April, given the poor weather last year and various summer events that slowed trading last year. To reach our full year estimate of +2%, Spirit needs flat LfL net income in the rest of the year, in line with guidance at the H1 results.
“Given the poor start, we expect Q3 to still be negative, thus requiring positive LfLs in Q4. Around 30% of Spirit’s EBIT and almost 100% of FCF is generated from its portfolio of c.450 leased pubs. At its H1 results, Spirit had completed nine investments as part of its alternative operating model trial and was planning to expand the trial group to 16 pubs in H2. We will look for an update on the trials as well as any plans to convert some of the new Locals division pubs across to Leased.”
For 2013, Rollo forecasts L4L sales in Managed of +2%, and -2% L4L net income in Leased.
He said: “We expect revenue of £764m (+1%), EBIT of £114m (+5%), PBT of £55m (+8%), and EPS of 6.4p (+10%, leaving us in line with consensus EBIT of £113m, PBT of £55m and EPS of 6.4p. The company is happy with consensus forecasts.
“Our Underweight stance reflects several factors. First, FCF at the PLC level is negative as the small upstreamed dividend from the securitised debt vehicle is insufficient to pay PLC cash demands of the loss-making onerous leases, pension costs, some capex, and the ordinary dividend.
“Second, while the Managed pubs offer catch-up potential to peer group trading levels, average unit sales and margins have always been lower for structural reasons, and the impressive sales growth rates is slowing as the investment programme winds down.
“Third, the performance of its Leased pubs (c.30% of EBIT) is disappointing, even without the rent reviews, and while we think Spirit’s plans to sell some of these makes sense, we forecast that this will be quite dilutive. Finally, the shares look fully valued on cal 10.1x 2013e P/E and 9.3x EBITDA (excluding the operating lease provision).”
