Grocery is popularly characterised as a volume game - bigger invariably means better. But in 2013 it was the small and medium-sized companies that thrived.
On the retail side, Ocado was the star performer. Following its lucrative deal to help Morrisons launch online, shares in the online grocer rocketed 427% to 447p, making it 2013’s biggest riser not only in retail, but on the FTSE.
Ocado’s success is contrasted with the travails of its larger rivals. The market value of Tesco, Sainsbury’s and Morrisons slipped 1% to £39.79bn.
Suppliers fared better. The FTSE Food Producers and Processors Index gained 11.1% starting 2014 at almost 7,200 points and the FTSE Beverages Index climbed 8.7% to more than 14,400 points.
But again, it was the turn of smaller UK-focused companies, such as Greencore and Dairy Crest to star, while giant multinationals such as Diageo, Unilever and Nestle delivered indifferent performances. So what’s behind the success of smaller companies? Who were the star performers and who should we look out for in 2014?
Since the recession, investors have piled into big fmcg companies, attracted by their strong brands, global reach, good dividends and reliable cashflow. In the five years following the collapse of Lehman Brothers, the shares of these multinational giants have flourished. For example, Unilever shares doubled, British American Tobacco shares rose 90% and Diageo shares climbed more than 80%.
At the start of 2013, they commanded significant price premiums to their smaller UK rivals. For example, Unilever traded at 11x EBITDA whereas Dairy Crest traded at under 6x EBITDA.
“The valuation gap between big and small has narrowed”
Shaun Browne, McQueen
But in 2013, as Diageo, Nestlé and Unilever all reported a slowdown in emerging market growth, the international giants started to look expensive and some UK food companies appeared to offer a bargain.
“The huge valuation gap between the big international players and smaller UK focused ones has narrowed,” says Shaun Browne, MD at corporate finance advisors McQueen. “The frothy multiples of some of the big international companies have come off a little and investors have started to recognise the value in some of the smaller UK food companies.”
Greencore - which was tipped in The Grocer by Liberum Capital analyst Patrick Coffey this time last year - is a prime example. Shares in the own-label manufacturer leapt from 101p to more than 220p in 2013 - boosted by improved prospects for growth in the US.
Other mid-sized listed suppliers have made some big gains. Shares in Cranswick, Hilton Food Group and Dairy Crest all increased by more than 35%.
The importance of growing investor interest in mid-sized UK food companies should not take anything away from some of the individual success stories in 2013. After the collapse of its merger with AG Barr, Britvic has impressed investors with a multimillion pound cost-cutting plan and its growth in the US. The shares climbed 70% in 2013 and Panmure analyst Damian McNeela’s expects more of the same this year, making it his top pick for 2014. “Given the strong forecast earnings growth, improving cash generation and growing scale of its international business we expect the re-rating to continue through 2014,” he says.
Ocado: tech stock not food stock
Meanwhile, the two biggest risers in food retail - Thorntons and Ocado - have benefited from a fundamental shift in the way investors view their business models. In Ocado’s case, the Morrisons deal raised the prospect of similar agreements with other retailers and prompted analysts to suggest Ocado had become a technology as much as a food stock.
And the success of Thorntons’ strategy of closing poor-performing shops and focusing on its business with the supermarkets led to it being re-evaluated as an fmcg group rather than a retailer. Thorntons shares shot up over 200% and Investec analyst Nicola Mallard picks it as one of her top tips for 2014.
The success stories contrast with the continued poor performance of the listed supermarkets, especially Tesco and Morrisons, whose shares have failed to increase despite the improved outlook for consumer spending.
Retailers in other sectors had a notably better year, largely because investors are confident that the improved health of the UK economy will translate into higher consumer spending. The FTSE General Retailers Index rose more than 35% to over 2,700 points in 2013.
The reasons why the UK supermarkets have failed to emulate this trend are well documented. Smaller rivals, especially the discounters, are stealing market share and less profitable channels - online and convenience - are growing in importance as big sheds fall out of favour.
But some analysts see light at the end of the tunnel. “The supermarkets still face pressures but comparatives are very favourable and they may benefit from economic recovery with rising volumes,” says Shore Capital analyst Clive Black. “We do again believe that Sainsbury’s and Tesco can offer investors value through their attractive dividend yields and scope to appreciate in value.”
Black is also backing another underdog - Premier Foods, which was one of the most volatile stocks of 2013. Although it is struggling under a mountain of debt and some of its brands are in long-term decline, Black eyes turnaround potential.
“Our stock pick for 2014 is Premier Foods, where we believe that a capital restructuring and new structures for Hovis can cause a material re-rating,” he says.
The stock market gains of the big international fmcg players in recent years and over the past year of smaller UK-focused companies mean investors looking for a bargain today may have to take bigger risks with their money.
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