Interactive Investor

Edmond Jackson's Stockwatch: Pick this "safe" AIM share

25th November 2014 09:58

Edmond Jackson from interactive investor

The debacle at Quindell has triggered a spate of advice that AIM-listed shares are highly speculative and require diversification or the use of a fund. Yet I can show how to identify a "margin of safety" that makes an AIM share a low-risk investment, even compared with the majority of fully-listed shares. This is relevant not only if capital protection is your first objective, but especially for anyone seeking to reduce inheritance tax liability.

AIM shares offer 100% IHT Business Property Relief after two years' holding, meaning they are then outside an estate. Obviously, you don't want to end up blowing your legacy with high-risk gambles.

A near 16% discount to asset value

The five-year table and chart show how AIM-listed pubs' group Young & Co's Brewery has achieved good all-round financial growth and, in particular, doubled its net tangible asset value. While the price/earnings (PE) multiple looks high at about 20 times (it has averaged this in each of the last five years) and the dividend yield is only about 1.5% (even with three times earnings cover), the shares trade at a near 16% discount to assets.

Young & Co's Brewery - financial summary
Consensus estimate
Year ended 31 Mar2010201120122013201420152016
Turnover (£m)128143179194211 
IFRS3 pre-tax proft (£m)18.413.3-7.521.426.6  
Normalised pre-tax profit (£m)17.41821.322.527.230.331.7
Normalised earnings/share (p)2439.833.338.253.348.450.6
Price/earnings multiple (x)    19.621.520.6
Cash flow per share (p)39.644.950.949.673.9  
Capex per share (p)1231.738.526.247.3 
Dividend per share (p)12.913.113.614.315.116.317.1
Dividend yield (%)     1.41.51.6
Covered by earnings (x)1.932.52.73.633
Net tangible assets per share (p)580554102310811233
Source: Company REFS.

Moreover, these are high quality and more easy to realise than, say, warehouses and other property integral to a firm's overall operation. So a discount to net tangible assets (NTA) here offers a more dependable margin of safety. Although the pubs continue to serve Young's branded ales and the plc name purports "brewery", this side was divested in 2006 and the business is unaffected by MP's voting to enable tenanted pubs to operate outside their tie.

With 245 pubs overall, Young's is well below the 500 pub level at which the intended legislation is targeted and its tenanted side accounted for just 5.5% of £116.6 million, group revenue in the first-half year to 29 September.

A cynic may say, quantitative easing has boosted all asset values - property from land, homes, offices or pubs - yet it would appear to need a very serious recession to de-rate Young's asset base. Its pubs are high quality as a result of investment undertaken and management capability, and while such "reputational value" is not capitalised on the balance sheet there is a case to consider what regular clientele is worth. At end-September the group balance sheet had £578.1 million property and equipment, with just £20.4 million goodwill.

Quality earnings profile limits downside risk

A key insight I employed to draw attention to Wetherspoon which has doubled since 2012, is well-managed pubs benefiting from people trading down from restaurants while wages make little to no progress against living costs. Astute pub managers have seized on this opportunity to convince new customers to stay - as seen see both from Young's five-year record and its 2014 trading updates showing incremental growth.

At prelims last May, managed house revenue was up 7.2% on a like-for-like basis and "such is the strength of our cash flow that we have been able to invest £33.6 million during the (last financial) year, whilst reducing our debt." This revenue growth rate was re-iterated at the July AGM which also mentioned the acquisition of the iconic Fox & Anchor pub in London's Smithfield Market, and two sites in Nine Elms and Woolwich Arsenal. Young's pubs are located throughout London and the south of England, i.e. relatively affluent areas.

The latest interims cited October/November showing this principal managed house revenue up 10.3% in total and 8.8% like-for-like "with further impetus to come from newly acquired sites." It shows Young's performing well even after the Indian summer period where the group benefited from its riverside locations and attractive beer gardens. Such a profile means the shares won't attract short sellers, Young's is a consummate lock-away - founded in 1831 and which will flourish for many years to come.

Strong balance sheet enables development

The interim accounts show £114.6 million long-term borrowings and £2.2 million short-term, i.e. financial gearing of about 30%. This seems appropriate to maximise shareholder value in an era of low interest rates - finance costs being covered 7.75 times by operating profit - while avoiding silly debt levels that got firms like Punch Taverns into trouble. The year to end-March 2014 saw net operational cash flow up 34.7% to £47.3 million with £33.6 million spent acquiring property/equipment and businesses, and £7.3 million distributed to shareholders.

Despite the overall improving economy, management is aware of "the risk of rising interest rates and the political uncertainty surrounding next year's election". Yet a macro issue for growth appears to be whether the UK can achieve a sustainable wage recovery - i.e. based on better productivity - in order to improve disposable income.

This is a tricky area where reported figures tend to vary, so you can but see what evolves, however Young's London/southern orientation mitigates risk. If the UK was to slide back into recession then admittedly the shares are liable to ease, but their downside risk is nothing like cyclical or highly-rated growth stocks. Given the strategic emphasis on investment than (cash) distributions, a recession would also likely empower management to buy assets at keener prices. The chart shows you this stock can be quite volatile but that partly reflects a tighter AIM market.

Respected fund manager rewarded for loyalty

It's notable how this respected fund manager Lindsell Train acquired and has held a 5.28% stake long-term - quite purposely for Young's brand quality within its asset value. For example, a July newsletter cited such a business less affected by the rise and fall of consumer confidence. "The resilience of their revenue through the recent recession confirms that it takes a great deal to discourage the average Brit from his or her 'affordable treat' at a well-maintained community pub."

For more information see youngs.co.uk.

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