VALUE INVESTING
Hardys & Hansons

By Stephen Bland (TMFPyad)
December 8, 2000

The brewery business has been stagnant for many years. Take a look around and the chances are that you will see that a lot of pubs have shut down or perhaps been converted into branches of Macdonalds or other uses. Round my way in West London I can think of three large, well-known pubs that over the last few years have been victims of burgerisation. One of them, the Red Lion at Brentford was, ironically, voted pub of the year some years ago by Evening Standard readers.

Not a growth business then. This has been reflected in the flat earnings per share of brewery shares over recent years. Some, like Bass (LSE: BASS), have got out of the business altogether to concentrate on hotels and restaurants. Yet the name Bass still sounds like a brewery share, if you did not know of their major change of business.

The consequence is that brewery shares are frequently to be found trading on attractive value ratings, big and small alike. One small outfit that caught my eye is Hardys & Hansons (LSE: HDYS), a local brewery company based in Nottingham. Here are the fundamentals:

• Share price 261p
• High/low this year 264/199
• High/low five years 337/199
• Cap 52m
• Normalised earnings per share year ended 30/09/00 24.7p
• Forecast earnings per share year ending 30/09/01 25.2p*
• P/E ratio historical 10.6; on 2001 forecast 10.4
• Yield on historical dividend 5.0%
• Price/Tangible Book 0.6
• Net Cash 16%
• One year relative strength 16%
• Directors own 8.4%, other majors 22.3%

*Note that there is only one broker forecasting and even that was made back in June 2000.

Hardys, then, is a pyad share in most respects. The negatives are the small capitalisation and the pedestrian EPS growth forecast. The biggest worry in my view is the growth forecast. But what is that worth? One broker, the house broker and five months ago at the interim stage. I would say therefore it is only of very limited use. Consequently I am running largely on smell here because I believe that we will see something of a revival in brewery shares and it is possible that the long term decline in the pub business may be approaching its nadir. To some extent this revival has already happened with Hardys as it has reached the year's peak in its price.

Interestingly, the normalised 30/09/00 actual EPS of 24.7p, announced today just after I had finished the first draft of this article without this data, beat the forecast by 1p. I think this helps to confirm my view that there is something pleasant going on here. Again, smell, if you like.

Here is some encouraging directorspeak from the interim report in June:

"...the start to the second half has been encouraging, with improved year-on-year sales... we are confident of a satisfactory performance at the end of the financial year."

This was confirmed by today's decent results. Unlike some companies, brewery directors are not known for excessive optimism. If a small brewing company talks of satisfactory performance, you better believe it because these guys are so conservative they stand somewhere to the right of Attila the Hun.

I have a little knowledge in this area because when I was training to become a chartered accountant, millennia ago now, which essentially involves doing a lot of auditing, the firm for which I worked specialised in brewery audits. So we travelled the country auditing local breweries, which are usually family-controlled, though Hardy's was not our client. They would give free beer to the auditors but there is no truth in the rumour that the quality of our audits was in any way carried out under the influence of alcohol, of course.

Some recent news, in November, is that the company has used 12m of its cash to buy a chain of eight pubs from Yates Group (LSE: YTE) but I am not sure that this tells us much, other than that the company clearly has the confidence to expand its interests in its existing field.

As I said above about the directors, breweries are extremely conservative businesses, more than almost any other. If you were to visit one, you might feel like going through a time warp. This, from the point of view of an investor, is a good thing. You won't find too much hype about all their exciting developments, especially in the smaller ones like Hardys, because there usually aren't any. And yet they have terrific asset potential. Stuffed with property, many trade way below book value like property companies, because the return on those assets from brewing and pubs has been inadequate. However many are controlled by the original founding families and are thus not easily prey to takeover artists, asset strippers and the like. Thus any asset value is not easy to unlock.

This brewery conservatism extends to their accounting. Hardys' cash flow is consistently well above reported EPS, which is why they have a net cash situation and have had for years. This kind of thing is highly attractive for value players. The ability to generate cash repeatedly, year after year, is a powerful financial aphrodisiac for those enamoured of the value style.

I always counsel against buying shares with a potential bid as the primary attraction. More often than not, it never happens. So with a share like Hardys it is in the re-rating on trading grounds, which in practice means market perception, that one has to depend for value realisation. I feel that the required perception may be swinging in favour of breweries like this.

Where Next?

• Value investing discussion board
• What's a pyad share?