In line with expectations

Greggs 12 October 2016 Update

Greggs

In line with expectations

Q316 update

Retail

12 October 2016

Price

1,008.00p

Market cap

£1,020m

Net cash (£m) at 2 July 2016

35

Shares in issue

101.2m

Free float

100%

Code

GRG

Primary exchange

LSE

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

(1.1)

3.5

(8.5)

Rel (local)

(4.6)

(2.7)

(16.4)

52-week high/low

1314.0p

884.0p

Business description

With over 1,740 shops, nine regional bakeries and 19,500 employees, Greggs is the UK’s leading ‘bakery food-on-the-go’ retailer. It utilises vertical integration to offer differentiated products at competitive prices.

Next events

Trading update

January 2017

Analysts

David Stoddart

+44 (0)20 3077 5700

Paul Hickman

+44 (0)20 3681 2501

Greggs is a research client of Edison Investment Research Limited

Greggs enjoys a differentiated position in the growing food-to-go market. Its strategy to enhance its offer and improve the efficiency with which it delivers that offer has yielded good results so far and remains on track. Although the industry faces input cost headwinds in FY17, Greggs has the financial strength to withstand them and the benefit of the continuing strategic initiatives to offset them.

Year end

Revenue (£m)

PBT*
(£m)

EPS*
(p)

DPS
(p)

P/E
(x)

Yield
(%)

12/14

806.1

58.3

44.0

22.0

22.9

2.2

12/15

835.7

73.0

57.3

28.6

17.6

2.8

12/16e

877.8

77.2

60.2

29.9

16.7

3.0

12/17e

928.7

80.0

62.3

31.0

16.2

3.1

Note: *PBT and EPS are normalised, excluding amortisation of acquired intangibles, exceptional items and share-based payments.

Q3 trading in line with expectations

With one quarter to go, Greggs is confident that it is on target to meet full-year expectations for FY16. We have therefore left our FY16 estimates unchanged. In the 13 weeks to 1 October 2016 total sales grew by 5.6% (2015: 5.0%) and like-for-like sales in company-managed shops increased by 2.8% (2015: 4.9%), in line with management’s expectations. Total sales have grown by 5.6% in the year-to-date and like-for-like sales have increased by 3.4%.

Industry-wide cost pressures in FY17

Management has highlighted pressure on certain commodity prices and the impact of the decline in sterling’s value as probable headwinds in FY17. Clearly Greggs and the industry generally will work to offset these pressures. Nevertheless, we acknowledge the further decline in sterling since we last wrote by reducing our FY17 gross margin assumption by 40bps and our PBT forecast by £4m.

Valuation: Broadly unchanged

The combination of a higher discount rate, lower FY17 gross margin assumption and faster net new store openings for the foreseeable future results in an immaterial 10p increase in our DCF valuation of Greggs from 1,179p to 1,189p. On our estimates, at 1,189p, the shares would trade on an FY16e P/E of 19.8x, which would fall to 19.1x in FY17e. The respective dividend yields would be 2.5% and 2.6%. At the end of FY15, Greggs reported net cash of c £43m and we expect a very similar level at the end of FY16. On an EV/EBITDA basis, the ratios for this year and next at today’s share price are 8.0x and 7.6x, respectively. At 1,189p, those ratios would be 10.0x and 9.5x.

Q316 trading update

Trading in line with expectations

The headline and the first sentence of Greggs’ Q3 update stressed the point that trading in the quarter was in line with management’s expectations. In the 13 weeks to 1 October 2016 total sales grew by 5.6% (2015: 5.0%) and like-for-like sales in company-managed shops increased by 2.8% (2015: 4.9%), in line with management’s expectations. Total sales have grown by 5.6% in the year-to-date and like-for-like sales have increased by 3.4%.

These figures are lower than those reported for H116 (like-for-like 3.8%; total 6.0%) and against an easier comparative. As ever, we would caution against reading too much into an individual quarter’s numbers. External factors such as weather and the timing of school holidays, among others, can materially distort the data over such a short period. It is worth repeating that the Q3 result was in line with management’s expectations.

Expansion continues

Through three quarters of FY16 Greggs has completed 145 shop refurbishments and is on track to refurbish around 200 shops this year. The company has also opened 103 new shops, including 41 franchised units predominantly in transport locations. It has closed 58 shops, leaving a total of 1,743 shops trading at 4 October (comprising 1,600 own-managed shops and 143 franchised units).

The pipeline of new shop locations remains good and, for FY16 as a whole, management still expects to open 140-150 shops and close circa 70-80, a net increase of around 70.

FY16 outlook

Management is pleased with progress on the first stages of its supply chain investment plan. The work to facilitate the new distribution centre in Enfield is now finished and the site will be brought into operation in the coming weeks. As a result Greggs will complete the previously-announced closure of its Twickenham bakery in November. With trading to date also on track, management stated that its “expectations for the full year outturn remain unchanged”.

A note of caution on FY17

At the end of its Q3 update management noted, “As we look to next year, whilst we anticipate some general industry-wide cost pressures, we expect to make further progress against our strategic plan”. In our note of 3 August 2016, we noted that we were maintaining our FY17 gross margin assumptions but that the outcome would depend upon further currency moves, changes to underlying commodity prices, retail pricing, production efficiencies, wastage rates and sales mix, among other factors. Since we published that note, sterling has weakened further. We have therefore reduced our estimates for FY17 (see Exhibit 1).

We now assume that gross margins will reduce by c 0.4pp. As we noted a moment ago, there are many moving parts to a retail gross margin. All other things being equal, the more than 10% fall in sterling against the US dollar would reduce gross margins by far more than 40bps. However, changes in the currency affect all players within the industry so we expect to see price rises in response to rising input costs. The growth of higher-margin coffee sales within Greggs’ sales mix will act as a further restraint on the scale of any gross margin decline. Production efficiencies resulting from the bakery rationalisation programme are also positive for gross margins. We would also expect Greggs’ buyers to be inviting suppliers to ‘share the pain’ and/or seeking lower cost sources of supply. All of these things were true when we last modelled Greggs’ financials; however, sterling has fallen further in the past week so we have reflected this by moving our gross margin estimate from flat to minus 40bps.

Financials

Given that management is insistent that progress so far this year is in line with its expectations, we see no need to change estimates for FY16. However, the warning about industry-wide cost pressures has caused us to revisit our FY17 assumptions, as just discussed.

The major change is the reduction in gross margin estimate. However, we have also increased the number of net new store openings in FY17 and beyond, reflecting the strong programme in FY16 and the positive comments on the pipeline.

We summarise the changes to our estimates below.

Exhibit 1: Changes to estimates

EPS (p)

PBT (£m)

EBITDA (£m)

Old

New

% chg.

Old

New

% chg.

Old

New

% chg.

2016e

60.2

60.2

0.0%

77.2

77.2

0.0%

120.2

120.2

0.0%

2017e

65.4

62.3

-4.8%

84.0

80.0

-4.8%

132.0

126.1

-4.4%

Source: Edison Investment Research

Valuation

The combination of a higher discount rate (from 4.9% to 5.2%), lower FY17 gross margin assumption and faster net new store openings for the foreseeable future results in an immaterial 10p increase in our valuation of Greggs from 1,179p to 1,189p. That valuation is sensitive to changes in the discount rate and the terminal post-tax cash flow multiple used (our base case uses 8x). The following sensitivity table shows the effect of changes to either or both of those variables.

Exhibit 2: Sensitivity of valuation (p/share) to discount rate (%) and terminal cash-flow multiple (x)

4.6%

4.9%

5.2%

5.5%

5.8%

6.1%

6.4%

7.0x

1,175

1,150

1,126

1,102

1,079

1,057

1,035

7.5x

1,209

1,183

1,157

1,133

1,109

1,085

1,063

8.0x

1,243

1,215

1,189

1,163

1,138

1,114

1,091

8.5x

1,276

1,248

1,220

1,194

1,168

1,143

1,118

9.0x

1,310

1,280

1,252

1,224

1,197

1,171

1,146

9.5x

1,343

1,313

1,283

1,255

1,227

1,200

1,174

10.0x

1,377

1,345

1,315

1,285

1,257

1,229

1,202

Source: Edison Investment Research


Exhibit 3: Financial summary

£m

2013

2014

2015

2016e

2017e

Year end 31 December

IFRS

IFRS

IFRS

IFRS

IFRS

PROFIT & LOSS

Revenue

 

 

762.4

806.1

835.7

877.8

928.7

Cost of Sales

(305.9)

(304.8)

(305.1)

(319.2)

(341.4)

Gross Profit

456.5

501.3

530.6

558.7

587.3

EBITDA

 

 

74.9

95.6

113.3

120.2

126.1

Operating Profit (before amort. and except.)

41.5

58.1

73.1

77.2

79.9

Intangible Amortisation

0.0

0.0

0.0

0.0

0.0

Exceptionals

(8.1)

(8.5)

0.0

(7.6)

0.0

Other

0.0

0.0

0.0

0.0

0.0

Operating Profit

33.4

49.6

73.1

69.6

79.9

Net Interest

(0.2)

0.2

(0.1)

0.0

0.0

Profit Before Tax (norm)

 

 

41.3

58.3

73.0

77.2

80.0

Profit Before Tax (FRS 3)

 

 

33.2

49.7

73.0

69.6

80.0

Tax

(10.3)

(14.0)

(15.4)

(16.8)

(17.4)

Profit After Tax (norm)

30.9

44.3

57.6

60.4

62.6

Profit After Tax (FRS 3)

24.2

37.6

57.6

54.6

62.6

Average Number of Shares Outstanding (m)

100.4

100.5

100.6

100.5

100.5

EPS - normalised (p)

 

 

30.8

44.0

57.3

60.2

62.3

EPS - normalised and fully diluted (p)

 

30.5

43.4

55.8

58.9

60.9

EPS - (IFRS) (p)

 

 

24.1

37.4

57.3

54.3

62.3

Dividend per share (p)

19.5

22.0

28.6

29.9

31.0

Gross Margin (%)

59.9

62.2

63.5

63.6

63.2

EBITDA Margin (%)

9.8

11.9

13.6

13.7

13.6

Operating Margin (before GW and except.) (%)

5.4

7.2

8.7

8.8

8.6

BALANCE SHEET

Fixed Assets

 

 

268.9

267.4

298.2

326.8

355.6

Intangible Assets

1.0

4.7

10.2

15.6

20.3

Tangible Assets

267.8

262.7

284.2

307.1

331.2

Investments

0.1

0.0

3.8

4.0

4.0

Current Assets

 

 

65.0

101.5

86.0

87.5

97.8

Stocks

15.4

15.3

15.4

16.0

17.0

Debtors

25.0

26.1

27.6

27.5

29.1

Cash

21.6

43.6

42.9

44.0

51.7

Other

3.0

16.5

0.0

0.0

0.0

Current Liabilities

 

 

(80.7)

(102.1)

(106.0)

(113.9)

(118.7)

Creditors

(80.7)

(102.1)

(106.0)

(113.9)

(118.7)

Short term borrowings

0.0

0.0

0.0

0.0

0.0

Long Term Liabilities

 

 

(17.0)

(20.1)

(11.9)

(26.7)

(24.9)

Long term borrowings

0.0

0.0

0.0

0.0

0.0

Other long term liabilities

(17.0)

(20.1)

(11.9)

(26.7)

(24.9)

Net Assets

 

 

236.2

246.7

266.3

273.7

309.8

CASH FLOW

Operating Cash Flow

 

 

82.5

108.6

119.6

123.9

130.6

Net Interest

(0.0)

0.2

0.2

0.1

0.0

Tax

(13.2)

(11.5)

(15.9)

(16.9)

(17.4)

Capex

(48.6)

(48.3)

(71.8)

(85.0)

(75.0)

Acquisitions/disposals

0.2

(4.8)

18.1

13.9

0.0

Financing

0.9

(2.6)

(7.2)

(4.1)

0.0

Dividends

(19.6)

(19.6)

(43.7)

(30.9)

(30.6)

Net Cash Flow

2.2

22.0

(0.7)

1.0

7.7

Opening net debt/(cash)

 

 

(19.4)

(21.6)

(43.6)

(42.9)

(44.0)

HP finance leases initiated

0.0

0.0

0.0

0.0

0.0

Other

0.0

(0.0)

0.0

0.0

0.0

Closing net debt/(cash)

 

 

(21.6)

(43.6)

(42.9)

(44.0)

(51.7)

Source: Greggs accounts, Edison Investment Research

Edison, the investment intelligence firm, is the future of investor interaction with corporates. Our team of over 100 analysts and investment professionals work with leading companies, fund managers and investment banks worldwide to support their capital markets activity. We provide services to more than 400 retained corporate and investor clients from our offices in London, New York, Frankfurt, Sydney and Wellington. Edison is authorised and regulated by the Financial Conduct Authority. Edison Investment Research (NZ) Limited (Edison NZ) is the New Zealand subsidiary of Edison. Edison NZ is registered on the New Zealand Financial Service Providers Register (FSP number 247505) and is registered to provide wholesale and/or generic financial adviser services only. Edison Investment Research Inc (Edison US) is the US subsidiary of Edison and is regulated by the Securities and Exchange Commission. Edison Investment Research Limited (Edison Aus) [46085869] is the Australian subsidiary of Edison and is not regulated by the Australian Securities and Investment Commission. Edison Germany is a branch entity of Edison Investment Research Limited [4794244]. www.edisongroup.com

DISCLAIMER
Copyright 2016 Edison Investment Research Limited. All rights reserved. This report has been commissioned by Greggs and prepared and issued by Edison for publication globally. All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report. Opinions contained in this report represent those of the research department of Edison at the time of publication. The securities described in the Investment Research may not be eligible for sale in all jurisdictions or to certain categories of investors. This research is issued in Australia by Edison Aus and any access to it, is intended only for "wholesale clients" within the meaning of the Australian Corporations Act. The Investment Research is distributed in the United States by Edison US to major US institutional investors only. Edison US is registered as an investment adviser with the Securities and Exchange Commission. Edison US relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. As such, Edison does not offer or provide personalised advice. We publish information about companies in which we believe our readers may be interested and this information reflects our sincere opinions. The information that we provide or that is derived from our website is not intended to be, and should not be construed in any manner whatsoever as, personalised advice. Also, our website and the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. This document is provided for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.
Edison has a restrictive policy relating to personal dealing. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report. Edison or its affiliates may perform services or solicit business from any of the companies mentioned in this report. The value of securities mentioned in this report can fall as well as rise and are subject to large and sudden swings. In addition it may be difficult or not possible to buy, sell or obtain accurate information about the value of securities mentioned in this report. Past performance is not necessarily a guide to future performance. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations. For the purpose of the FAA, the content of this report is of a general nature, is intended as a source of general information only and is not intended to constitute a recommendation or opinion in relation to acquiring or disposing (including refraining from acquiring or disposing) of securities. The distribution of this document is not a “personalised service” and, to the extent that it contains any financial advice, is intended only as a “class service” provided by Edison within the meaning of the FAA (ie without taking into account the particular financial situation or goals of any person). As such, it should not be relied upon in making an investment decision. To the maximum extent permitted by law, Edison, its affiliates and contractors, and their respective directors, officers and employees will not be liable for any loss or damage arising as a result of reliance being placed on any of the information contained in this report and do not guarantee the returns on investments in the products discussed in this publication. FTSE International Limited (“FTSE”) © FTSE 2016. “FTSE®” is a trade mark of the London Stock Exchange Group companies and is used by FTSE International Limited under license. All rights in the FTSE indices and/or FTSE ratings vest in FTSE and/or its licensors. Neither FTSE nor its licensors accept any liability for any errors or omissions in the FTSE indices and/or FTSE ratings or underlying data. No further distribution of FTSE Data is permitted without FTSE’s express written consent.

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Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

245 Park Avenue, 39th Floor

10167, New York

US

Sydney +61 (0)2 9258 1161

Level 25, Aurora Place

88 Phillip St, Sydney

NSW 2000, Australia

Wellington +64 (0)48 948 555

Level 15, 171 Featherston St

Wellington 6011

New Zealand

Edison, the investment intelligence firm, is the future of investor interaction with corporates. Our team of over 100 analysts and investment professionals work with leading companies, fund managers and investment banks worldwide to support their capital markets activity. We provide services to more than 400 retained corporate and investor clients from our offices in London, New York, Frankfurt, Sydney and Wellington. Edison is authorised and regulated by the Financial Conduct Authority. Edison Investment Research (NZ) Limited (Edison NZ) is the New Zealand subsidiary of Edison. Edison NZ is registered on the New Zealand Financial Service Providers Register (FSP number 247505) and is registered to provide wholesale and/or generic financial adviser services only. Edison Investment Research Inc (Edison US) is the US subsidiary of Edison and is regulated by the Securities and Exchange Commission. Edison Investment Research Limited (Edison Aus) [46085869] is the Australian subsidiary of Edison and is not regulated by the Australian Securities and Investment Commission. Edison Germany is a branch entity of Edison Investment Research Limited [4794244]. www.edisongroup.com

DISCLAIMER
Copyright 2016 Edison Investment Research Limited. All rights reserved. This report has been commissioned by Greggs and prepared and issued by Edison for publication globally. All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report. Opinions contained in this report represent those of the research department of Edison at the time of publication. The securities described in the Investment Research may not be eligible for sale in all jurisdictions or to certain categories of investors. This research is issued in Australia by Edison Aus and any access to it, is intended only for "wholesale clients" within the meaning of the Australian Corporations Act. The Investment Research is distributed in the United States by Edison US to major US institutional investors only. Edison US is registered as an investment adviser with the Securities and Exchange Commission. Edison US relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. As such, Edison does not offer or provide personalised advice. We publish information about companies in which we believe our readers may be interested and this information reflects our sincere opinions. The information that we provide or that is derived from our website is not intended to be, and should not be construed in any manner whatsoever as, personalised advice. Also, our website and the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. This document is provided for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.
Edison has a restrictive policy relating to personal dealing. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report. Edison or its affiliates may perform services or solicit business from any of the companies mentioned in this report. The value of securities mentioned in this report can fall as well as rise and are subject to large and sudden swings. In addition it may be difficult or not possible to buy, sell or obtain accurate information about the value of securities mentioned in this report. Past performance is not necessarily a guide to future performance. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations. For the purpose of the FAA, the content of this report is of a general nature, is intended as a source of general information only and is not intended to constitute a recommendation or opinion in relation to acquiring or disposing (including refraining from acquiring or disposing) of securities. The distribution of this document is not a “personalised service” and, to the extent that it contains any financial advice, is intended only as a “class service” provided by Edison within the meaning of the FAA (ie without taking into account the particular financial situation or goals of any person). As such, it should not be relied upon in making an investment decision. To the maximum extent permitted by law, Edison, its affiliates and contractors, and their respective directors, officers and employees will not be liable for any loss or damage arising as a result of reliance being placed on any of the information contained in this report and do not guarantee the returns on investments in the products discussed in this publication. FTSE International Limited (“FTSE”) © FTSE 2016. “FTSE®” is a trade mark of the London Stock Exchange Group companies and is used by FTSE International Limited under license. All rights in the FTSE indices and/or FTSE ratings vest in FTSE and/or its licensors. Neither FTSE nor its licensors accept any liability for any errors or omissions in the FTSE indices and/or FTSE ratings or underlying data. No further distribution of FTSE Data is permitted without FTSE’s express written consent.

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

245 Park Avenue, 39th Floor

10167, New York

US

Sydney +61 (0)2 9258 1161

Level 25, Aurora Place

88 Phillip St, Sydney

NSW 2000, Australia

Wellington +64 (0)48 948 555

Level 15, 171 Featherston St

Wellington 6011

New Zealand

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

245 Park Avenue, 39th Floor

10167, New York

US

Sydney +61 (0)2 9258 1161

Level 25, Aurora Place

88 Phillip St, Sydney

NSW 2000, Australia

Wellington +64 (0)48 948 555

Level 15, 171 Featherston St

Wellington 6011

New Zealand

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