It has been a torrid time for pubs but Marstons should recover strongly reckons Gary Newman

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There are some sectors where I am incredibly wary of buying in general at the moment, but amongst those there are companies that have the strength to survive the current situation with Covid-19 and will do very well long term, so there is an argument for buying them as an investment. The only downside with that if you are taking a proper longer term view of five years plus – or even just for when things recover closer to normality in the next year or two – is that you have to accept that short term there is a real risk that the shares could go substantially lower. That now only looks likely to me if we get a really serious second wave of the virus which was to cause further widespread lockdowns in the UK, and the flipside of that is that any developments with vaccines and treatments that suggest we will get something sooner than expected is likely to have a positive impact. I have little doubt that there will be some casualties within the hospitality sector, but longer term that should mean that the strong companies which survive could do even better than they would otherwise have done...

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One which I think will not only survive the current period but will come back even stronger than before is brewer Marston’s (MARS), which owns pubs, restaurants and hotels across the UK. As you would expect, like all the other businesses in this sector, it was hit hard back in March when it became apparent how serious this virus was and the chances of a lockdown increased, and that saw it hit a low of around 18p in mid-March. Since then it has recovered to the current share price level of around 54p, but that is still a long way off the 132p level it was trading at around the end of 2019, and gives a market cap of just £362 million. Obviously its financial results for the last few months are going to look terrible, and it will probably be quite a while before sales return to anything like previous levels, but the market will be expecting that and it should largely be priced in, other than maybe a shorter term dip when news on this front actually comes – even when something should be priced in, the market can sometimes still react to that on the day news is released.

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The last set of financials, the interims up to the end of March 2020, certainly don’t reflect the full impact of Covid-19, but they do give an idea of where the business was and how it at least weathered the early part of this economic shock. Revenue for those six months was £510 million and was only down by 7.8% on the same period in 2019, despite the early impacts of the virus, especially during March, and still resulted in an underlying net profit for the period of £7.6 million. That was down significantly compared to the previous year, but the business had been undergoing some changes, including the sale of 168 of its pubs. Looking at the balance sheet, longer term borrowings of more than £1.66 billion immediately jumps out – and also explains the finance costs of £48.4 million for the six month period – but this isn’t something new and the company has had an ongoing debt reduction plan in place (which has included extending the maturity of some of the debt which would have become payable). In the context of that debt, it is also worth pointing out that property, plant and equipment has a carrying value of £2.48 billion, and I also like the fact that out of total non-current asset value of £2.83 billion, only £322 million of that is in goodwill and intangibles. NAV as at the last accounts was £729 million, so compares favourably to the current market cap of around half of that, even allowing for the virus.

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In terms of managing its debt and maintaining liquidity, it had £118 million of headroom on its debt facilities – including an additional facility of £70 million through until November – and covenants had already been amended or waived to reflect the situation with the virus. It also quickly managed to reduce its overheads whilst its business was shut, to around £10 million per month. Based on all of that alone I might have been tempted to have a play on the sector starting to recover now that pubs have re-opened, but I certainly wouldn’t have been rushing out to buy. But what really changed things for me was the announcement of a joint venture with Carlsberg UK, which is expected to complete in Q3, subject to competition clearance, and will include an equalisation payment of £273 million and give Marston’s a 40% stake in the JV. This will be a change of direction for Marston’s, which for over 200 years has been focussed more on the brewing side of the business, but which will now become an out-and-out pub operator with over 1,300 pubs in its portfolio. Post the completion of the JV it will concentrate on running its pubs, whilst retaining a direct stake in the newly formed brewing business (Carlsberg Marston’s Brewing Company), and the £239 million up front payment will certainly help to meet its debt reduction target over the coming years, which it was already actively working on following two disposals around the start of the year – it sold 137 pubs to Admiral Taverns in November, and a further 29 to Hawthorn Leisure in January. Going forwards post this deal, and assuming the sector in general starts to recover, I wouldn’t be surprised to see Marston’s looking at ways to grow the business, rather than scaling things back as it had been doing prior to the Carlsberg deal – which went ahead on terms agreed prior to lockdown. Based on all of this, and accepting that there could be further drops short term, I can see value in buying at the current share price of around 54p with a longer view to the business recovering strongly, and in that scenario I think you could easily double your money with patience.

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