IPO odds lengthen at Spirit

Spirit Group, in financial terms, has been a resounding success. Following the acquisition of the S&N Retail business, arguably the finest large grouping of managed pubs in the industry, for £2.51bn, its private equity owners have released £2.755bn from the business. It sold 364 lower quality pubs to R20 for £345m, issued bonds against half the estate raising £1.2bn, sold Premier Lodge to Whitbread for £536.2m, and secured two sale-and-leaseback deals, raising a combined £674m. The two sale-and-leaseback deals, with British Land and Prestbury, were the clearest example yet of the superior value that can be realised through separating the rental value of pubs from the value of the operating businesses. The multiples Spirit has achieved on disposal have been impressive. In the case of the pubs sold to R20, which will be managed by Scottish & Newcastle Pub Enterprises, the multiple was staggering. In both the case of the R20 disposal and sale-and-leaseback deals, Spirit has exploited the appetite for non-traditional investments as property companies search for superior rental yields. Spirit has now also formally hoisted the “for sale” sign over a further 170 high street pubs and circuit bars including the Henry’s, Bar 38 and Via Fossa brands, as M&C revealed on Friday, following approaches from a number of groups, thought to include R20 and GI Partners. The latest disposal, which contains a large number of freeholds and produces Ebitda of about £25m, could push proceeds through the £3bn barrier (the presence of Robert Tchenguiz’s pub vehicle in the latest auction will certainly raise anticipation). And yet Spirit still owns the lion’s share of the operating business and there is still an exit to come. But after a series of asset sales, refinancings, and disposals, the question is, what is left? Operationally, the achievements are not quite as obvious. The performance of the business came in to sharp focus recently when Spirit updated the bond markets on current trading, showing declining margins and flat like-for-like sales. The news caused a bit of a stir. A research document from Royal Bank of Scotland’s Structured Finance department, entitled “Dispirited” suggests that if the current trend continues for the entire financial year, profits will be £30m lower than expected. It said: “A simple gross up of the six-month figures suggested a full year’s trading would result in an Ebitda figure £30m (14%) below the pro forma £214.3m.” Perhaps it is not surprising that a business that has been through so much change in such a short period of time – it is effectively less than two years old – should suffer at the sharp end. Two businesses with strong corporate identities have been smashed together and some fallout had to be expected. The company blamed rising utility bills, increases in minimum wage, Sky TV and other costs for its shrinking margins (300 points from 34.4% for 2004 to 31.3% in the quarter to 19 February). The disappointing results will have hit Spirit’s IPO aspirations hard. One analyst described missing trading targets so soon after conducting the bond issue as “a bit of a schoolboy error”. The fact is that other companies, such as M&B, Wolves and Greene King are living with the same cost pressures and producing the numbers. Ultimately the performance is not good enough. There is still work to be done before this company is ready for the public markets. Analysts believe that if it is to list more reshaping – if not significant surgery – is needed. This may now happen. More asset sales can be expected after the current high street disposal. A flotation would take Spirit to the cusp of the FTSE100 and put Karen Jones, Spirit's charismatic chief executive, up alongside Pearson’s Marjorie Scardino and Burberry’s Rose Marie Bravo as one the most prominent female business leaders in the UK. But the current trading performance of the business and the vibrant auction markets are conspiring against her. The company has some fantastic businesses, and some real power brands in Chef & Brewer and Two For One, that will appeal to raft of trade buyers. An auction of the business would prompt a feeding frenzy. Perhaps any upside at Spirit will be realised by new owners. Spirit’s consortium of private equity groups, including Blackstone CVC and Texas Pacific Group, have already extracted a lot and they will look for an exit that will deliver the best price. As David Treacher, head of leisure at RBS, puts it: “The people that own Spirit will look at where they can make the most money, and that would come from a break up. Spirit has pubs that will appeal to lots of different buyers. It will not be an emotional decision.” The odds on an IPO have lengthened considerably.