UK Edition
Questor: Whitbread has the firepower to see it through Covid-19 and its valuation is appealing
Questor share tip: this column distrusts the stock market bounce, so we’ll look for firms that can prosper when the recovery comes
Two conflicting trends are battling for market supremacy at the moment.
One is the Covid-19 outbreak and its economic effects, where the data is likely to get a lot worse before it gets better and there is no visibility at all over whether we get a V, W, U, bathtub or L-shaped recovery.
The other is the massive fiscal response from some governments, including our own, and the huge monetary stimulus provided by central banks.
Assets on the balance sheet of America’s Federal Reserve have grown by $1.8 trillion (£1.5 trillion) over the past five weeks, an increase of 43pc, a greater injection of liquidity into financial markets than the first round of quantitative easing in autumn 2008 achieved in the year after its launch.
The Fed is now buying not just government bonds and mortgage-backed securities but investment-grade corporate debt, short-term commercial paper and even corporate high-yield (“junk”) debt, the last-named via exchange-traded funds.
Whatever their value to Main Street, the benefits to Wall Street of these initiatives are potentially huge, especially given the implicit signal sent by the dive into junk bonds. The Fed seems to be saying that it is prepared to backstop financial markets and support them.
This brings moral hazard. It could be argued that there is no penalty for making bad picks and plenty of reward for punting away.
It also leaves investors to ponder the potential disconnection, at least in the short term, between gloomy macroeconomic and company reports and markets that are rising, borne along by cheap central bank liquidity.
The monetary authorities had previously promised that QE and inputs of liquidity would be temporary measures that would one day be withdrawn; that day never came.
This column distrusts the stock market bounce, especially as markets initially rallied hard but then fell for a further five months after the launch of the first tranche of QE by the Fed in 2008 as economic and corporate news worsened. But it can equally see the power of cheap liquidity.
One way to bridge the divide is to continue to keep looking for companies that have strong competitive positions and limited debt, so they can make the most of the eventual recovery, no matter what shape it is. An appealing valuation will also hopefully protect investors from losses.
This takes us to Whitbread. Shares in the firm, which owns Premier Inn hotels and the Beefeater and Brewers Fayre casual dining chains, have slumped from £51 to £27, to leave the firm with a market value of £3.7bn. According to the first-half results to August 2019, Whitbread had net assets of £3.8bn, so the shares are trading near book value.
That is a good start, although book value will fall if the firm loses money. The company ended August with minimal net debt and a pension surplus, although it did have lease liabilities of £2.5bn. Only £209m in borrowings is due to be repaid by 2022, with the £450m due in 2025 the next milestone maturity.
The cash pile has since fallen from £800m to £400m but Whitbread can tap a £900m credit facility and also qualifies for the Government’s Covid Corporate Finance Facility. That should all help see it through.
Even if the recovery in trading is only slow, this is a business that has made double-digit profit margins and returns on capital, with healthy cash flow, in the past.
Patience and nerve will be needed but Whitbread’s valuation is appealing.
Questor says: buy
Ticker: WTB
Share price at close: £27.10
Update: Provident Financial 7pc 2020 bond
It has occasionally been a bumpy ride in terms of the bond’s price, but the coupons arrived on time and the bond matured on April 14.
Provident Financial has now repaid the loan. Since our initial analysis in October 2017 we have banked £17.50 in coupons, including the final £3.50 payment on April 13. We bought at £101. Mission accomplished for income-seekers.
Russ Mould is investment director at AJ Bell, the stockbroker.
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