AG Barr loses sparkle

According to IRI Marketplace, the value of the UK soft drinks market fell 0.8 per cent between 31 January and 19 June and volumes slipped by 0.4 per cent. Consumers are looking for healthier alternatives to traditional high-sugar soft drinks, while drink prices are being reined in by an ongoing supermarket price war. What's more, this challenging sales environment is emerging ahead of the introduction of a sugar tax in 2018, which seems to be aimed squarely at the makers of sugary drinks.

Barr is already feeling the pain. Its last trading update in July reported a 2.9 per cent year-on-year fall in first-half like-for-like sales to £125m. Given the poor backdrop, we think Barr's shares' high rating could soon start to come under pressure, especially if results at the end of the month hold further bad news.

Management is trying to mitigate the issues by investing in low and no-sugar versions of its drinks, increasing its presence in England where it is under-represented compared with its leading position in Scotland, and by way of international expansion. There are some encouraging signs such as last year's 27 per cent growth in international turnover. However, the significance of this is limited by the fact that overseas revenues stood at less than £10m or just 3.6 per cent of the total.

Investment in growing the business also comes with the risk of producing disappointing returns, based on the fact that Barr has upped spending at a potentially challenging point in the cycle. Some of its investment is to improve efficiency at its Cumbernauld plant to enable it to take the bottling of Snapple drinks in-house, for which it has a licence to distribute in the UK. Barr has also been acquiring land and building a warehouse in Milton Keynes. The rationale behind this expansion is to support its licensing agreements to distribute brands such as Snapple and Rockstar in some European countries.

While the company has already made large strides in adapting its portfolio to low- or no-sugar versions of some of its drinks, we feel it may prove a hard sell for some of its key brands, meaning the company may need to ramp up advertising. What's more, rather than shoppers moving to low-sugar versions of soft drinks, Barr noted in its last results that "the growth driver in overall soft drinks was once again water, offset by significant value declines in fruit juice, dilutables, sports drinks and some areas of carbonates". Barr's portfolio is skewed towards carbonates, which account for three-quarters of total turnover, which puts it in a tough position. This also means the sugar tax, slated for 2018, is likely to remain a worry.

The company recently announced the acquisition of cocktail mixer maker Funkin, which looks like an interesting purchase, but its size means it will be some time before it is transformative for the wider group. That said, while spending has been higher than usual recently, debt has been kept down, and analysts at Berenberg estimate the company could have about £100m of firepower for further acquisitions.