Finsbury Food Group (FIF)

The cake market continues to grow despite concerns about obesity and health, and is worth £1.46bn. The fastest growth is in the healthy and special treats sectors which are two of Finsbury’s main markets. Healthy is growing at an annual rate of 18 per cent while special treats are growing at 40 per cent a year. Each, though, remains less than 5 per cent of the whole market.

Finsbury makes three-fifths of the cakes sold under the Weight Watchers brand and the acquisition of Anthony Alan Foods (AAF) in October means that it now controls the UK distribution for the brand in the cakes sector. Finsbury is paying up to £3.75m for AAF, but £2.9m of that is dependent on the Weight Watchers licence being renewed for a further three years in November 2009.

Sales of celebration cakes, Finsbury’s third main market, have dipped recently, but the company puts this down to the fact that there are less children up to eight years old – the core market. Now, though, it says that births are increasing so this trend should reverse. That will be good news because Finsbury accounts for 50 per cent of the market.

At the beginning of 2007, Finsbury acquired Lightbody, which makes celebration cakes and bite-sized products. It has already transferred some production to Lightbody's facilities, saving £1m a year, and improved buying terms. Lightbody also gives Finsbury a key customer in Marks & Spencer. Overall cost savings should be worth at least £2m a year and Lightbody’s sales were 8 per cent higher in the first 20 weeks of this financial year.

A fire at the UCB factory, which makes yum yums and gluten-free breads, at the end of October 2006 didn’t hamper Finsbury too much – it was behind the net exceptional gain of £1.1m last year. It was fully insured and production has started again, and turnover in October was 19 per cent higher than last year. The Nicholas & Harris specialist bread business provides another opportunity for the group. Its sales were 15 per cent higher in the first 20 weeks of the financial year.

Ingredient costs are the main negative. Flour, butter and milk prices have risen by nearly 10 per cent on an annualised basis. Finsbury has pushed through a price increase of around 7 per cent and is planning another one to cover the more recent increases. It has managed to pass on these price increases even though its core customers are the notoriously tough, and financially powerful, supermarkets. With products at the premium end of the market, such as Tesco Finest, they appear to be less price sensitive.

The shares have fallen significantly over recent months, although they have recovered slightly since the reassuring annual general meeting statement. The demise of Inter Link Foods has hit sentiment towards the sector, but it operated at the lower end of the market and was dependent on key price points unlike Finsbury's premium focus. Inter Link was acquired from its administrators by McCambridge Group.

Finsbury’s borrowings are high and further payments for acquisitions are likely to push them up again this year. Net debt is expected to rise from £28m to around £34m by next June according to brokers JM Finn. There is a debt facility of more than £40m with HSBC. As it moves forward cash generation from operations should allow Finsbury to gradually reduce the debt, although that depends on whether it decides to pursue more acquisitions.

Despite these negatives, the share price has fallen too far. The shares are trading on eight times this year’s forecast earnings, falling to less than seven the following year. In January, the Lightbody acquisition was partially financed with a share placing at 85p a share – not that different from the current share price. Buy.

Bull Points

Focused on upper end of the cake market

Has been able to pass on ingredient price rises

Cost savings from acquisition integration still to show through

Bear Points

Input costs rising

High borrowings