Leading analyst Jamie Rollo at Morgan Stanley has said that if Phil Urban, the new chief executive of Mitchells & Butlers (M&B), is unable to improve performance, he thinks the board could consider some more radical options.
Rollo, who reduced his price target for the group’s shares by 20% to 340p, said: “Of these, we think the “Defensively retrench” option is interesting: opting to switch from an investment-led growth strategy to a defensive strategy focused on maintaining cash profits could lead to a lower risk / higher dividend outcome, essentially emulating a real estate company. This seems to be working for JD Wetherspoon, which is shrinking its pub estate, returning cash to shareholders, and trades on double the P/E multiple.”
Rollo said: “Tough industry trading leads us to cut earnings per share forecasts 6-10% and our price target to 340p. However, we remain Overweight as the relatively new CEO is focused on improving performance, and if this fails we see plenty of other options to unlock value in this asset-rich business.
“Two consecutive months of weak pub industry trading lead us to take a more cautious view of M&B’s like-for-like sales trajectory. The Coffer Peach tracker recorded +0.6% industry like-for-like sales in March, despite this including Easter this year and having easy comparisons, and this followed a flat performance in February. The two-year growth rate deteriorated sharply (+3.3% in H2 15 to +0.3% in March), and the LTM rolling average slowed to +1.2%.
“M&B has been underperforming the market (-1.0% 17 weeks to Jan), and we now assume like-for-likes of -1.0% FY16e and 0% in FY17, noting easier comps in its H2 (H2 15 0% versus H1 15 +1.7%). FY15 operating margins should be flattish, reflecting Orchid synergies offsetting the National Living Wage, and we assume 20-30bps declines from FY17 on, as ongoing wage pressure bites. This leads to a 6-10% EPS forecast reduction.”
M&B will report H1 results on 19 May (MSe Ebit £154m, +0.4%), in which Urban will give an update on the initial strategy he laid out in November.
Rollo said: “The CEO’s three themes then were (1) building a more balanced business, (2) instilling a more commercial culture, and (3) increasing the pace of execution and innovation. There are some indications of the latter. For example, the last few months have seen a new look, O’Neill’s, Miller & Carter’s “Steak Table” experience, a Toby Carvery app, the roll-out of contactless payments and Apple Pay, a new craft keg festival, a trial of its own coffee blend, and plans to add 500 digital gaming machines.
“However, these examples are hard to quantify, and we would look for clarity on: (1) group targets (eg like-for-like sales, operating margins, ROIC), (2) how the company aims to drive like-for-like sales (eg premiumisation, digital / CRM capabilities, improved food offer, more NPD /innovation, better incentivisation), and (3) plans to mitigate costs, particularly on the introduction of the National Living Wage but perhaps also a review of overheads (noting it has already restructured its senior operations teams).
“We believe that M&B has attractive real estate, solid concepts, significant scale, and a good central infrastructure. However, it has had five CEOs in as many years, has lost much senior operational talent, has been slow to innovate (on its own admission), and like-for-like sales have averaged just +1% over the last five years (and seem to be on a deteriorating trend). If the new CEO is unable to improve performance, we think the Board could consider some more radical options.
“On balance we remain positive. Our Overweight recommendation has been poor, but the stock’s favourable risk-reward ratio, very low valuation, and significant optionality mean we maintain our positive stance. Admittedly we see few short-term catalysts, so we see M&B as a stock for long-term deep value investors. Having said that, expectations are very low, so it may not take much to get the share price moving.”
