Interactive Investor

Stockwatch: why I’ve upgraded this mid-cap share to ‘buy’

This owner of popular brands has itself become a hugely popular share. Analyst Edmond Jackson believes it’s time to follow the chair’s lead and buy.

8th March 2024 12:08

by Edmond Jackson from interactive investor

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bounce back

Despite its over-indulging history, Premier Foods (LSE:PFD), the owner of Mr Kipling and Bisto brands, has finally got its act together.

News of resolving its pension fund deficit payments and the chair having made a first share purchase worth nearly £77,000 at near 154p, makes me feel like missing the action.

Versus previous expectations of only slowing pension deficit payments, Premier’s next financial year to 29 March 2025 will benefit from £33 million increased free cash flow with no further contributions after this date. That £33 million equates to 3.8p per share which, if fully paid out, would put the expected 2025 dividend near 6p, equivalent to a near 4% yield. It would be nothing special but perhaps relatively dependable income for a well-managed (nowadays) groceries group.

Last six months are a great improvement on 20 years ago

For relatively recent followers, all looks well. The chart shows enticing momentum, the share price up from 115p last October to over 130p in November, and another re-rating following last Wednesday’s pension fund news – after which the chair bought.

The shares at around 156p and consensus forecasts for earnings per share rising steadily to over 13.5p this coming financial year to end-March 2025, implies a quite modest price/earnings (PE) ratio of 11.5x. 

Last September’s balance sheet had net assets of 152p per share, but mind, this is constituted 73% by goodwill and intangibles – a clue to Premier’s acquisitive past. And what a rampant one: debt-fuelled expansion in the early 1990s (under different management) overstretched the business and saw the stock slump from over 1,800p equivalent in 2007 to 140p at end-2008.

The group originated as a mid-1980s flotation called Hillsdown Holdings which became a top performer – ironically, for a general foods conglomerate. In 1990 it acquired Premier Brands, itself a buy-out of Cadbury Schweppes food and drink division. Private equity then bought it out and re-floated the group in 2004.

Along this journey, various long-established British “heritage” brands (according to your taste) such as Fray Bentos pies and Hartley’s jam, got bought and sold on. The group was quite a second coming of “Cavenham Foods” from the 1960s, a vehicle for the late wheeler-dealer Sir James Goldsmith.

It made the classic “deal too far” by way of Rank Hovis McDougall (RHM) for £1.2 billion which completed in early 2007 but laid the basis for a near-collapse and explains to this day the pension fund issue.

Enduring popularity of Premier’s brands

This quite surprises me given we are told nowadays to eat less processed foods, but perhaps the likes of Angel Delight, Atora suet, Bisto gravy, Oxo cubes, cakes by Cadbury, Lyons and Mr Kipling, will forever be part of the national psyche. Every Christmas, people craze after factory-made mince pies: Premier sold nearly 190 million of them last time.

Even so, it has been a long haul back to financial credibility, the shares trading in a 30-40p range between 2014 and 2018. Long-term followers were instilled with a lack of growth appeal.

While there were innovations such as a partnership with baker Paul Hollywood and Japanese manufacturer Nissin Foods, I recall controversy when it emerged Premier was charging its suppliers “pay and stay” – for the right to supply it.

An accumulation of issues and what seemed very mature brands, sidelined me from taking Premier seriously.

Then came Covid lockdowns and people took refuge in comfort foods – reflected in how the table shows a jump in revenue and profit that March 2021 fiscal year, also a record 16% operating margin. The shares re-rated over 100p and climbed steadily thereafter.

Premier Foods - financial summary
Year end 2 April

2017201820192020202120222023
Turnover (£ million)7908198248479479011,006
Operating profit (£m)61.569.36.595.3151131132
Net profit (£m)5.57.2-33.846.510677.591.6
Operating margin (%)7.88.50.811.316.014.513.1
Reported earnings/share (p)0.70.9-4.05.412.28.810.4
Normalised earnings/share (p)1.62.02.66.010.011.512.9
Operational cashflow/share (p)4.46.26.910.19.910.310.0
Capital expenditure/share (p)2.52.32.12.12.72.72.7
Free cashflow/share (p)1.93.94.87.97.17.67.3
Dividend per share (p)0.00.00.00.01.01.21.4
Covered by earnings (x)0.00.00.00.012.27.49.5
Return on total capital (%)3.33.50.33.67.55.45.3
Cash (£m)3.123.627.81784.254.364.4
Net debt (£m)523496470430333285261
Net assets (£m)7939499631,6801,1841,5071,406
Net assets per share (p)95.2113114198138175162

Source: historic company REFS and company accounts

Shares are justifiably restored to 2011 level

Together with a near 40% advance on last October’s low, this is a curious if notable time that the chair decides to make a first purchase of shares – and a material one at nearly £77,000 worth. Appointed in 2019 from a diverse corporate background, he ought to have decent judgement. If he was simply into box-ticking, he could have bought smaller and sooner.

Yet there have been real improvements lately. The first half year showed advances of around 20% in revenue, profit and earnings – helped by the like-for-like statutory operating margin up from 12.1% to 14.0%. That’s because administrative costs were held at around £32.5 million while gross profit advanced 28% over £186 million. That was some achievement amid inflation, reflecting strong controls.

An update in respect of Premier’s third quarter to end-December was strong for a groceries group: sales rose 14%, helped by “sweet treats” up 21% as if the British are not going to pay much attention to warnings about sugar and health. Admittedly, it was the Christmas period.

Also in the third quarter, total market share grew 1.2% and the international side raised sales by 11% despite recent dire news on UK goods exports. Sales in new categories more than doubled “with Ambrosia Porridge pots and Mr Kipling and Angel Delight Ice-cream, stand-out performers”. These do not appear especially novel to me but if masses of people are going to eat them and boost sales then I pay attention.

Past perception of having fallen between two stools

The historic sense towards this food share has been “unsatisfying” both on underlying value growth and dividend income.

The legacy RHM pension issue has meant – and remains visible in terms of recent consensus forecasts – earnings cover kept around seven times, for an annual dividend projected to grow from 1.4p per share to 2.0p in respect of the March 2025 year. Hence, a well-justified 12% jump last Wednesday after Premier reached agreement with the RHM trustees much sooner than expected, following strong performance.

This has an interesting potential read-across to any company (share) where a pension deficit hangs over it.

Last May at 130p, I concluded with a “hold” stance despite noting the chart implied another bull run was underway. It chiefly concerned me that the stock was defensive, but hard to conceptualise as “growth” given its groceries emphasis and cost-of-living strains, plus the pension deficit was an overhang for dividend income. It looked as if annual contributions of over £40 million would continue for some time, potentially also compromising acquisitions – a chief means to growth.

Of relevance for the fourth fiscal quarter when annual results are declared in May, is that last year branded revenues rose nearly 15% in context of 9% for the year as a whole, implying consumers do not necessarily tighten their belts after a Christmas binge.

Given the context of Premier’s overall strengthening and with tight cost controls, such a narrative stands a fair chance of continuing, which would explain the chair’s decision to buy before a restricted period on director dealings begins quite soon.  

Like various shares spiking right now, this one may consolidate in the near term, but on a medium to long-term view I think it justified to raise the rating from “hold” to “buy”.

Edmond Jackson is a freelance contributor and not a direct employee of interactive investor.

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