Qualiport

[ October 23, 2000 ]

Fishing for the next PizzaExpress

By Maynard Paton (TMFMayn)

Carburton Street, London -- Read any bulletin board for long enough and you're bound to find something along these lines:

"I've just bought into Company X. They're going to be the next Company Y".

Of course, Company X is typically a very small company with no real track record but has big ambitions. Company Y, on the other hand, is the sector leader whose shares have risen exponentially over the past few years.

But regardless of whether its buying shares in discount retailers after the success of Matalan (LSE: MTN) or shares in Internet incubators after the success of Durlacher (LSE: DUC), investing in lower-grade companies simply on the back of a flourishing rival courts disaster.

Peter Lynch, the legendary US fund manager, has commented on the perils of "the next something". In his book One Up On Wall Street, Lynch remarks:

"Another stock I'd avoid is a stock that's been touted as the next IBM (NYSE: IBM), the next McDonald's (NYSE: MCD), the next Intel (Nasdaq: INTC), or the next Disney (NYSE: DIS). In my experience, the next of something almost never is... In fact, when people tout a stock as the next of something, it often marks the end of prosperity not only for the imitator but also for the original to which it is being compared."

However, there can be exceptions to Lynch's "next something" investment rule. If you continually focus within your circle of investment competence, there is a good chance of developing a "nose" to smell the sector stars of tomorrow.

The next PizzaExpress

So let's talk restaurants. This particular sector has a consistent habit of throwing up "the next something", all due to the industry's rather low barriers to entry.

For example, one potentially exciting part of the Qualiport's investment in PizzaExpress is the company's international expansion. If it succeeds, well, PizzaExpress could be "the next McDonald's". And in terms of the UK, there are plenty of restaurateurs all trying to become "the next PizzaExpress"!

Golden rules

There are two characteristics for a successful fast-expanding restaurant chain. The lessons from McDonald's and PizzaExpress are:

• Keep it simple, and;
• Keep it (relatively) cheap.

Having a complicated menu means more cash tied up in unwanted food and a greater inconsistency in the dishes. It leads to the old "too many cooks" failure. And good value pricing just means greater rollout and profit potential, the chain encompassing more than just the affluent Central London marketplace.

In the past, I've compared ASK Central (LSE: AKC) to PizzaExpress. ASK is perhaps the obvious "next PizzaExpress" in the UK. A little too obvious perhaps, given the similarities in their offerings. Nevertheless, ASK largely follows the aforementioned rules of operating a restaurant chain and, with its financial performances stacking up, looks a company with investment attractions.

Focus on Fish!

Further down the food chain is BGR (LSE: BGR), an AIM-listed company valued at £38m. This embryonic restaurateur has been making all the right moves lately by evolving into a simple and reasonable value-for-money dining chain.

The group now focuses on one dining concept -- its Fish! brand of restaurants. Within the group's annual results, BGR described its offering as a "simple menu of classic fish dishes" aimed at the "£15-25 mid-spend market". A good sign for a prospective restaurant investment.

In March, the company also announced the demerger of its software (!) division Quadranet (LSE: QNT) and another BGR disposal was announced ten days ago. Three upmarket "Signature" restaurants, which have historically generated most of BGR's profits, are to be sold for £11m cash.

Shorn of its software operation and "extraneous" restaurants, BGR is left to focus on the Fish! concept. But it's very early days, as there's only been one Fish! restaurant open for more than a year. A further two have been trading for more than six months, while another started trading in August.

However, aided by the Signature proceeds, the expansion is gathering pace. Two more Fish! restaurants are due to open their doors later this year and a further ten outlets are said to be planned for 2001. Although few in number, current Fish! trading has been "buoyant" of late.

No diving in

As perhaps can be expected, there are a few reasons why restaurant investors shouldn't go diving for Fish! and BGR just yet:

• With just four Fish! restaurants open, three of which are located in Central London, a rollout concept has yet to proved;
• The accounts are, and will continue to be in the short-term. distorted by disposals.
• The true underlying financial performance of the Fish! concept is impossible to determine, and;
• Without a handle on the underlying financial picture, valuations are out of the question.

All in all, the early signs look promising. However, thoughts of BGR being "the next PizzaExpress" are a little premature at this stage. Even if investors prudently wait for a year, when perhaps BGR will have a dozen Fish! outlets in operation, the company would still have bags of long-term potential. Putting the possible growth into context, PizzaExpress currently has around 240 pizza restaurants.

For the Qualiport, and anybody else looking for "the next PizzaExpress", BGR is presently one to watch from the sidelines. Only time will tell whether I should have paid more attention to Mr Lynch.

Where Next?

• Drawing your circle of investment competence
• Order this great book -- One Up on Wall Street
• Pizza Battle -- ASK Central vs PizzaExpress
• BGR discussion board