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Are Sky-Rocketing Conviviality Retail PLC and Punch Taverns plc A Buy After Today’s Deal?

Shares in off licence operator Conviviality Retail (LSE: CVR) rocketed more than 20% higher this morning, after the group announced a major deal with Punch Taverns (LSE: PUB).

Conviviality, whose main brand is the 600-strong Bargain Booze off licence chain, plans to triple its annual sales. The firm has confirmed previous reports and announced plans to acquire drinks wholesaler Matthew Clark, which is a 50/50 joint venture between Punch Taverns and Hertford Cellars Limited.

Conviviality will pay £200m for Matthew Clark, which will be funded with a £130m placing of new shares and a new borrowing facility of £80m. The deal should transform Conviviality into a major UK drinks wholesaler and the group expects to have combined annual sales of more than £1.1bn, nearly triple last year’s turnover of £364.1m.

Punch will also benefit, as it will receive around £100m for its stake in Matthew Clark. This will help to reduce its hefty £1.5bn debt burden.

Is the price right?

Based on figures provided by Punch, Matthew Clark’s post-tax profits for the last twelve months were £15.6m. This makes the £200m price tag equivalent to a P/E ratio of 12.8, which seems reasonable.

Does this deal make Conviviality or Punch a more attractive buy?

Punch

Punch shares currently trade on a 2015 forecast P/E of just 3.4. The reason they are so cheap, of course, is that the firm had far too much debt and nearly went bust in the aftermath of the financial crisis.

Things are improving. Net debt has fallen from £3.6bn in 2009 to £1.5bn, and further improvements are expected as Punch continues to sell non-core pubs and focus its estate on more profitable locations.

Punch is very much a turnaround investment at the moment, but today’s deal is good news and I can see the investment potential here. According to Punch’s latest trading update, the net value of its pub estate, less debt, is £691m. That’s more than twice the firm’s market cap of £291m.

Punch could be a value buy.

Conviviality Retail

Conviviality floated on AIM in 2013, since when its shares have risen by 48%, including today’s gains. Net profit has also risen strongly, from £4.8m in 2013, to £11.2m in 2015. Before today’s gains, Conviviality shares offered a generous dividend yield of about 5.3%, and traded on a forecast P/E of about 13.

Today’s deal looks set to change the picture completely. The £200m acquisition is larger than Conviviality’s £125m market cap and will require the firm to issue £130m of new shares and borrow £80m. Sales are expected to rise to more than £1.1bn and the firm’s larger scale may mean it can secure more competitive pricing on its stock, which could be good for margins.

However, the placing shares were sold at 150p, significantly below the current share price, and we don’t yet know how quickly the firm will be able to start reducing its net debt. In my view, it makes sense to let the dust settle before deciding whether to invest here. There will probably be better buying opportunities, once the excitement surround today’s deal has died down.

However, if you already own shares in Punch or Conviviality, or are considering a buy, I'm confident you might also be interested in the company discussed in "3 Hidden Factors Behind This Daring E-commerce Play".

This business is well-known in the UK. It has a charismatic boss with a history of making headlines -- and of delivering strong profit growth.

The Motley Fool's experts have crunched the numbers and believe these shares could be seriously undervalued at the moment.

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Roland Head has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.