Most popular equity research this week | 2 - 6 Oct

Gold Access

"In the absence of a cash element to the offer from Deltic, we think that investors will choose the (undervalued) certainty of 203p in cash from Stonegate under current market conditions.

Our initial analysis of Deltic’s merger proposal implies a valuation of 286p per share. In effect, RBG shareholders are being offered 65% of the combined entity for 53% of the combined EBITDA. Optically, this looks attractive relative to Stonegate’s 203p all-cash offer. We think that the proposed synergies relating to the merger (being verifiable) are by their nature conservative in quantum and timing, and more focus (e.g. around bar opening costs) could give further upside. Revenue synergies were not quantified, whereas, in reality, the ability to capture different demographics, trade them across a wider late-night piece with the addition of RBG’s food offering could add material traffic/revenue upside. Deltic clearly wants an (easy?) way of listing, potentially using an acquisition currency to mop up other bar operators in the current environment, and RBG shareholders could become part of this bigger journey. 

First, why was there no cash offer? This could still come, although the 10 October deadline may leave insufficient time to agree on financing and convince management, and Deltic is keen to have a listing – although we think a cash element (e.g. 50:50 merger with a special dividend) could focus the mind, given repeated commentary from management around the certainty that cash offers bring. Secondly, in the current environment, investors will need to take a view on what multiple an operator concentrated into a particular (late night) segment of the market should trade on versus a more diversified operator across a wide variety of formats from community and high-street pubs through branded bars to country inns and late-night venues. Intuition suggests that diversification prevails in weaker cycles. Wet-led venues are generally back in vogue but we have seen some slippage recently from GNK and MAB. Countering that, significant late-night capacity has come out of the market over the last decade and supply is more aligned to demand. Either way, with RBG’s share price having drifted back yesterday, and a cash underpin limiting the downside, we would expect to see renewed buying given that expectations may have shifted back to Stonegate raising its offer."

Free Access

"Treatt has had yet another outstanding year, continuously exceeding expectations and meeting its 2020 strategic objectives three years early. The board has already approved a plan to drive the business through to 2022 that seeks to build on this success. We raise our EPS forecasts by 3% in FY17 to reflect the strong performance, though our FY18 and FY19 EPS estimates fall by 1-7% due to higher interest costs. Our DCF-derived fair value increases to 522p from 438p, which represents c 10% upside.

FY17 has been an impressive year for the company, with three separate upgrades to guidance. The growth rate achieved in FY17 (c 24% revenue growth, as per guidance) will be hard to replicate and should not be considered the new norm, but it does demonstrate the company is successfully embracing the sweet spot in flavour ingredients. Our net debt figures rise as working capital requirements are increasing (due to the impressive sales growth and also an increase in raw material prices). We now forecast £11m at end FY17, in line with guidance of £11-13m. We continue to base our assumptions on the expectation that both the UK relocation and the US expansion costs – which are progressing as planned – will be debt-funded, but acknowledge that management has not ruled out raising equity. 

Growth in the ingredients space remains higher than average for the consumer sector as consumers demand cleaner labels and healthier products but will not compromise on taste; this requires specialist ingredients. Margins are also typically high at the value-added end. Treatt’s ingredient solutions are used both by food ingredients companies in their formulations and by food and beverages companies directly. Treatt has placed particular emphasis on the beverages space and is becoming increasingly specialised in citrus, tea and sugar reduction. 

We value Treatt using a DCF model. We have rolled forward our model to commence in 2018, which, together with the increases to our operating forecasts, indicates a fair value of 522p (previously 438p), an attractive c 10% upside to the current share price. Treatt trades at 25x and 16.1x calendar P/E and EV/EBITDA multiples for 2018, representing discounts of c 9% and 22% to its ingredients peer group, respectively. Given the current growth trajectory of the business, and our forecast for low double-digit CAGR EPS for 2016-20, we believe this level of discount is unwarranted."