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More to Barr than fizz

The maker of Scotland's 'other national drink' offers defensive brand earnings and balance sheet strength at a discount
July 21, 2022

Consumer staples are quintessential ‘old economy’ stocks. Sometimes slated as slow-growing, the sector is also recognised as a ‘safe pair of hands’, especially in chaotic times. This rationale makes sense. Essential food and drinks are among the last areas where shoppers cut their budgets, and, in times of high inflation, well-known brands are prized for their ability to raise prices without losing customers. 

Tip style
Growth
Risk rating
Medium
Timescale
Long Term
Bull points
  • Share rating at discount to 5-year average
  • Brands give defensive edge
  • Acquisitions in high-growth areas
  • Strong balance sheet
Bear points
  • War on sugary drinks
  • Tricky consumer outlook

Glasgow-based drinks maker AG Barr (BAG) is one firm that has managed to sail above the London market’s tidal wave of profit warnings, toasting to three profit upgrades in the past 12 months. Analysts at broker Liberum have since tipped the Irn-Bru maker as one of the stocks most likely to deliver “earnings resilience or positive surprises” in the coming months, crediting its strong brand and market position in Scotland, where it even outsells Coca-Cola. Sales have proved to be defensive in the past, even growing during the Great Recession in 2008. So, in the words of its famous ad campaign, could Irn-Bru ‘get you through’ the current market uncertainty?

The fluorescent-orange fizz has been known under various slogans, including the ‘Soft Drink for Hard Men' and ‘Scotland's Other National Drink', having been manufactured for more than 120 years at AG Barr’s Cumbernauld factory. It was launched as ‘Iron Brew’ in 1901 by chairman Andrew Greig Barr, cementing the Barr family’s move away from a traditional cork-cutting business into making carbonated drinks. He passed the crown to his brother WM Snodgrass Barr two years later, and the run of successive Barr family chairmanships only ended in 2009 when Robin Barr stepped down, passing over to Ronnie Hanna. 

Beyond the flagship drink, which has its own blue-and-orange tartan and accounts for just under half of total sales, AG Barr owns a small, concentrated stable of brands. These include tropical-fruits-focused Rubicon (20 per cent of sales), pre-mixed cocktails range Funkin (14 per cent), and value beverages Barr Flavours (12 per cent), as well as smaller franchises for Snapple, Bundaberg and others. Overall, 96 per cent of AG Barr’s sales are in the UK.

Though the Barr family now owns less than 15 per cent of the company, some hallmarks of a family business remain, including a focus on consistent cash-generation, brand ownership, and a conservative financial management style that has helped build one of the strongest balance sheets in the industry. Despite this, AG Barr’s share rating has lagged behind at a 14 per cent discount to its five-year average, with a forward PE ratio of just under 18 times. 

 

Falling flat 

Purveyors of soft drinks have lost some of their pop in recent years, preoccupied by a triple-whammy of the Covid-19 pandemic, government levies, and cost inflation. Even for AG Barr, which has a relatively small on-trade presence in bars and restaurants, the pandemic subdued its sparkle, posting an 8 per cent decline in sales in the half-year to July 2020. This was partly because the ‘impulse’ channel – customers making unplanned purchases – usually makes up 40 per cent of all its sales, but mostly disappeared during lockdowns. Since then, the bounce-back has been swift, and by 2022, sales of all three of Barr’s core brands – Irn-Bru, Rubicon, and Funkin – were back up against 2021 and 2020 (pre-Covid) financial years, with Funkin's sales growing by 92 per cent in the year to 30 January compared with the same period in 2019/20.

However, tastes change and health-conscious consumers increasingly opt for low-sugar green juices and plant-based milks in their coffee. The UK government introduced a levy on sugary drinks in 2018, which ended up raising less than half of the predicted amount as AG Barr and larger rival Britvic (BVIC) changed their recipes to avoid paying the extra 18p-24p levy per litre. Irn-Bru’s sugar content fell by more than half, from 10.3g per 100ml, to 4.7g. This has neutralised the regulatory threat for now, with 99 per cent of AG Barr’s drinks sitting below the levy's threshold. 

Still, Barr has not been able to swerve rising costs thanks to higher prices of energy, glass and aluminium. The firm has countered by upping price-tags for consumers, as well as through hedging and long-term procurement deals, which have helped protect gross profit margins. Nevertheless, broker Berenberg expects margins to fall by 0.8 of a percentage point this year.

These have all been headwinds for the soft drinks industry, which under normal circumstances only grows volumes by an average of 2 to 3 per cent a year anyway. AG Barr is expected to beat the industry average, and Berenberg predicts revenue growth of 5.1 per cent in the current financial year, thanks to its exposure to high growth segments, such as ready-to-drink cocktails and plant milks through a recent acquisition of oat-milk maker Moma.

The clouds are also parting for the beverages industry at large, with the summer sunshine expected to boost sales. Shoppers usually buy 36 per cent more soft drinks between June and August than at any other time of year, while industry figures suggest that for every one degree that temperatures rise, soft drink sales increase by 1.6 per cent; a fact of particular relevance this month. Barr posted bumper sales during the UK heatwaves in 2018 and 2013.

 

Transformation bubbling under the surface

AG Barr has slowly transformed its portfolio, leaving it with a margin and growth potential that investors are not yet giving it credit for, says Berenberg’s analysts. Since losing the franchise to its Rockstar energy drinks to a PepsiCo buyout in 2020 – a licensed brand that previously accounted for8 per cent of revenues – Barr has offset this with new launches of Irn-Bru Energy and Rubicon RAW at higher margins. Meanwhile, it has upped its investment in Rubicon, enabling it to grow by 26 per cent in two years and increase distribution across the UK.

 

This has helped cement AG Barr’s advantages over its closest peer, Britvic, which sells J2O, Robinsons fruit squash, and franchised Pepsi drinks, on a much larger scale, with revenues more than five times Barr’s. However, the smaller rival owns a higher proportion of its brands, leading it to generate cash margins of 19.7 per cent, significantly higher than Britvic’s 16.5 per cent (see chart). Meanwhile, conservative financial management has kept AG Barr’s debts at a mere 1 per cent of its total assets, compared with 37 per cent at Britvic. 

Its strong net cash position, which stood at £64.3mn in April, could give Barr an edge as it plans to pursue a higher level of investment over the short-term, to make up for its conservatism during the pandemic when it also suspended dividends. 

 

Plenty of gas

Aside from the special dividend it already distributed this year, this firepower could be ideal for making acquisitions, which would be a likely catalyst for the share price. AG Barr has strong form at making a success out of deals, having quadrupled Funkin’s revenues over the six years since its acquisition,  to the extent that it now represents a seventh of group sales. The brand is currently rolling out in Australia, which management says could soon be followed by export to the US. 

More recently, Barr purchased a 60 per cent stake in Moma. Though the brand currently only makes around £6mn in annual revenues from porridge and oat milk, it provides exposure to a fast-growing market; spending on oat milk in the UK nearly doubled to £146mn between 2019 and 2020.

Competition for further acquisitions will be fierce, though, thanks to the scale of rivals PepsiCo and Coca Cola. There is also the challenge to sort out fads from the long-term winners, demonstrated by Coca-Cola discontinuing and eventually selling the once-trendy coconut water brand Zico back to its founders last year. The risk of jumping on bandwagons is greater for Barr, which tends to play it safe with staggered buy-outs that begin with taking a minority stake.  Along these lines, in 2019 it bought a 20 per cent stake in Elegantly Spirited, which makes non-alcoholic spirits.

Whether or not acquisitions materialise, AG Barr remains well-placed to take advantage of a busy summer trading period and extend the reach of its fast-growing brands. Meanwhile, its strong financial position gives the Irn-Bru maker more breathing room than its rivals.Still a buy for the long term. 

Company DetailsNameMkt CapPrice52-Wk Hi/Lo
A.G. BARR (BAG)£616mn550p596p / 463p
Size/DebtNAV per share*Net Cash / Debt(-)Net Debt / EbitdaOp Cash/ Ebitda
223p£64.6mn-106%
ValuationFwd PE (+12mths)Fwd DY (+12mths)FCF yld (+12mths)P/Sales
182.8%4.3%2.1
Quality/ GrowthEBIT MarginROCE5yr Sales CAGR5yr EPS CAGR
15.6%17%1%-4%
Forecasts/ MomentumFwd EPS grth NTMFwd EPS grth STM3-mth Mom3-mth Fwd EPS change%
13%4%0.9%-0.3%
Year End 31 JanSales (£mn)Profit before tax (£mn)EPS (p)DPS (p)
202025637.326.56.2
20212273122.31.7
20222694224.518.1
f'cst 20232814330.414.9
f'cst 20242924531.015.5
chg (%)+4+5+2+4
source: FactSet, adjusted PTP and EPS figures  
NTM = Next 12 months   
STM = Second 12 months (i.e. one year from now) 
*Includes intangibles of £99mn or 89p per share