Fevertree Drinks (LSE: FEVR) is perhaps one of the UK’s most compelling growth stories. The business has not just dominated a niche, but has carved out a new one by offering premium mixers to accompany expensive spirits.
I significantly underestimated the market for premium mixers when Fevertree first appeared on the scene. Perhaps I still do, because I don’t believe the company worth buying at current prices despite 77% revenue growth and a doubling of diluted EPS in the first half of this year.
That said, I’m not horribly bearish on the company. The business model is wonderful – it outsources manufacturing which does away with the need to invest heavily in bottling plants. That’s why profits tend to grow faster than revenue at the company. The fixed cost base is relatively low, so incremental sales growth flows through to the bottom line.
Cash generation is incredibly strong and net cash now sits at £40m. As a result, the interim dividend has been hiked 95%. Even after this massive increase, the shares still only offer a 0.57% yield to prospective investors.
A low yield is largely irrelevant given the growth nature of the company, although it serves to illustrate just how pricey the shares are. Everyone knows Fevertree is a wonderful business and its valuation has been driven up to 63 times forward earnings as people scramble for the shares.
To be fair to the bulls, it regularly smashes earnings predictions, which might explain why the share price has retreated a little recently, despite management predictions to “materially beat expectations for the year.”
Can I see myself owning shares in Fevertree one day? Absolutely. But I feel patience is perhaps the best course of action right now considering the heady valuation and expectations placed on the firm. Instead, I’m more tempted by A.G. Barr (LSE: BAG).
Seizing market share
Adjusted figures almost always used to put a company’s best foot forward, to flatter results. Not so at Barr, a class act that adjusted out an exceptional gain from the sale of its Walthamstow facility to ensure results didn’t overstate the performance of the underlying business.
This honestly doesn’t surprise me given the nature of its management team. They have rewarded shareholders generously with share buybacks and dividends in recent years. Right now, the company is executing a £30m purchase of shares and offers a 2.5% yield after hiking the interim dividend by 5%.
I believe now is a great time for management to be buying back shares. The company’s portfolio of loved brands, including Irn Bru, Rubicon and Strathmore, are gaining market share while group revenue increased 8.8% even though the UK market expanded only 4.2% by value. The company’s project to reduce sugar levels in these drinks is storming ahead, with at least 90% of company-owned brands on track to contain less than 5g of total sugars per 100ml by January.
You can buy the shares for only 20 times earnings. Given the company’s perennial ability to adapt to and outperform the soft drinks market, its cash-generative brands, and solid capital allocation history, that seems a fair price.
A potential four-bagger
Barr and Fevertree are quality operations but some might consider them both overpriced right now. One of our top analysts, Mark Rogers, has found an internationally recognised brand that could be set to double its sales. Importantly, this growth has been healthily profitable and he believes the shares are ripe for the picking right now.
The company has averaged a return on capital of over 18% in the last few years and has, much like Fevertree, consistently blown past expectations. Mark believes the business could deliver a near-fourfold return for investors over the next decade. To read the full investment thesis, click here.
Zach Coffell has no positions in any companies mentioned. The Motley Fool UK has recommended AG Barr. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.