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Punch still on ropes

SHARE TIP: The risks look too high following Punch's demerger of its more successful pubs
September 1, 2011

BULL POINTS:

■ Potential value in property assets

■ Stake in Matthew Clark

BEAR POINTS:

■ Debts too high

■ Limited amount of cash to support securitisation

■ Signs of renewed economic downturn

■ Complex structure

IC TIP: Sell

The latest attempt by Punch Taverns to salvage value for shareholders from the debt-addled pubs group has involved the de-merger of its better-performing pubs into a new company called Spirit, leaving Punch focused on turning around a troubled estate of leased pubs. Even when the de-merger plans were announced in March, it looked like shareholders in what remained of Punch would face an uncertain future. With the UK's economy looking increasingly precarious, the outlook for Punch looks perilous.

Following the de-merger, Punch is left with about 5,080 pubs, around £115m of so-called 'unrestricted' cash, half of drinks distributor Matthew Clark, and an eye-watering £2.3bn of net debt. The structure of the group is complicated, but is where some key issues lie. Punch is essentially three companies. There's a central company that holds the cash, a few short-leasehold pubs and the stake in the drinks distributor. In addition, it sells beer to the entire estate. The pubs, meanwhile, are held as security against two massive loans. As of March, 3,003 pubs were held in the £1.5bn Punch A securitisation and another 1,198 were held in the £967m Punch B securitisation.

The pubs in Punch A and Punch B are required to generate a certain amount of cash profit in order to meet the terms of their loan agreements. The bad news is that their profits are falling short of this. They are not in default of the loan agreements, though, because the central company siphons cash into the securitisations to prop up their profits. Broker Espirito Santo gives Punch three to four years before the cash runs out, even though it assumes that trading will improve. The doomsday scenario for Punch shareholders is that, after using up all its unrestricted cash, the group breaks its loan covenants and its lenders take the pubs.

ORD PRICE:10pMARKET VALUE:£ 66m
TOUCH:10-11p12-MONTH HIGH/LOW:18p10p
DIVIDEND YIELD:NILPE RATIO:2
NET ASSET VALUE:35pNET DEBT:£2.3bn

Year to 31 AugTurnover (£bn)Pre-tax profit (£m)Earnings per share (p)Dividend per share (p)
20091.44-406-56.1nil
20101.28-159-24.9nil
2011*0.53778.7nil
2012*0.51626.9nil
2013*0.46485.4nil
% change-10-23-22

Normal market size:30,000

Matched Bargain Trading

Beta:1.0

More share tips and updates...

Many analysts think it's unlikely that Punch can get its pubs performing well enough to comply with the lending terms, but this does not necessarily mean the worst - if Punch can show its lenders that trading is improving, its loan terms could be renegotiated. However, that could mean that shareholders' interest in the equity would be hopelessly diluted. Should a favourable deal be negotiated for shareholders, the prize is bricks-and-mortar assets possibly worth 49p a share, according to broker Execution.

Regardless of Punch's current trading - an update was due on 1 the outlook is deteriorating fast. And, given the high fixed costs September - of servicing its debt, Punch's profits and its net asset value are particularly sensitive to small shifts in trading. A worsening economy could also cause problems for Punch's self-help plans, which involve selling 2,126 poorly performing pubs at a rate of about 500 a year.

There is the slim chance that Punch could give up on the securitisations before it has fed them much cash, sell its stake in Matthew Clark (possibly worth 7p a share, according to broker Panmure Gordon) and return some capital to shareholders. However, that looks unlikely. After all, those assets could have been hived off with Spirit during the de-merger if Punch's bosses were willing to hang its lenders out to dry.