Shepherd Neame Research Report

Contents

• Executive summary
• Company overview
• Financials
  • Income
  • Financial position
  • Cash flows
• Competition
• Management
  • Executive compensation
• Ownership
• Investment outlook

Executive summary

• Shepherd Neame is a British hospitality business with its own brewery - Britain's oldest, founded in 1698 - and a substantial estate of freehold properties in the South East of England. There is a healthy level of insider ownership, and the founding family remains actively involved in management through the Chief Executive - Jonathan Neame.
• The shares trade on the Aquis Stock Exchange (AQSE) Growth Market, but technically remain unlisted, leaving them largely ignored by institutional investors and inadmissible for any kind of index. This creates the kind of illiquidity that facilitates large share price dislocations.
• The company is well capitalised with plenty of equity in its freehold property estate and a large proportion of its debt consisting of long-term loans with fixed interest rates. Leverage ratios are perfectly manageable, and interest expense is well covered.
• Several years of economic and regulatory headwinds have had a major impact on the company's financial results, but it remains profitable and highly cash generative.
• A positive of the recent downturn is that the share price has become very depressed. The shares currently trade at 0.39x book value, and as a result of property values being understated in the accounts, 0.31x the company's real net asset value. In terms of earnings, the shares currently offer a 6.2% earnings and 4.4% dividend yield. On a normalised basis, you're looking at a comfortably double digit earnings yield and mid-to-high single digit dividend yield.
• There's uncertainty around the timing of a recovery, but I'd expect the shares to reach at least £10-12 per share from their current price of £4.85 within the next 3 years, presenting a highly attractive opportunity for the discerning investor.

Company overview

Shepherd Neame is Britain's oldest brewer, with operations at its brewery, based in Faversham, Kent, officially starting in 1698. The owner at the time was Richard Marsh, who was also the mayor of the town. The brewery passed to Samuel Shepherd through marriage in 1732, and then down the line to Henry Jr Shepherd who took on Percy Beale Neame as a partner in 1864. At this point the business became known as Shepherd Neame & Company. It was incorporated as a private limited company in 1914, after Percy died, with his children as the shareholders.

As an interesting aside, Richard Marsh held King James II captive in the brewery after he attempted to flee to France during the Glorious Revolution of 1688.

Shepherd Neame remains a private limited company, but its shares trade on the Aquis Stock Exchange (AQSE) Growth Market - formerly known as the ICAP Securities and Derivatives Exchange (ISDX) Growth Market. Prior to 2014, there were two classes of share: A and B. Both share classes had equal voting rights, but the A shares had a nominal value of £1 and were quoted on the ISDX, while the B shares had a nominal value of 2p and were held exclusively by direct descendants of Percy Beal Neame and their spouses. With 68,000,000 B shares and 11,457,500 A shares in issue at the time, the B shares represented 85.6% of the voting rights, giving the family complete control of the company.

In 2014, the two share classes were converted into 14,857,500 ordinary shares with a nominal value of 50p. Immediately following this conversion, family members, directors and employees held an aggregate beneficial interest of 54%, with the ability to sell their shares on the exchange. If you're wondering why Shepherd Neame was kept a private limited company and the shares trade on the AQSE Growth Market, the answer is quite simple: inheritance tax relief.

Beyond the brewery, the company has a substantial estate of 286 pubs spread across London and the South East, 85% of which are freehold properties. It famously owns the Westminster Arms, frequented by members of Parliament.

While the portfolio contains a diverse mix of pub types and locations, they are on average more rural and "wet-led" - i.e. trade is focused on drink sales. The rural weighting means the turnover of each pub is lower than a portfolio of pubs in high-traffic urban locations, and as such, lends itself to the tenanted model - where an individual entrepreneur leases the pub from Shepherd Neame and runs it as their own business.

Shepherd Neame has three core business segments: Brewing and Brands; Retail Pubs and Hotels; and Tenanted Pubs. Further detail on each is provided in the following sections.