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Famous Brands: Acquisition spree, but at what cost?

After rousing acquisitions, focus shifts to conserving cash by suspending dividends for the short-term.

Since its beginnings in the late 1960s, with the Steers burger franchise laying the foundations for Famous Brands, management have been bold.

A number of acquisitions – some bigger and bolder than others – have seen the group develop into one of South Africa’s favourite mid-cap stocks. Its brand portfolio includes Steers, Debonairs Pizza, Wimpy, Mugg & Bean, Tashas and others. Slowly the group has expanded across parts of Africa and the Middle East.

Arguably, a game changer has been its expansion into the UK with the acquisition of Gourmet Burger Kitchen (GBK) for R2.1 billion – the biggest deal in its 22-year history as a JSE-listed company.

The company, which has enjoyed a debt-free balance sheet and strong cash-generation in recent years, now has to digest this acquisition.

Building scale comes at a cost. Famous Brands, which has been a progressive dividend payer, announced on Monday that it’s suspending dividend payouts until the 2018 financial year to conserve cash in the business.

CEO Darren Hele said the decision to halt the dividend by the board is “right” as it continues to bed down its mega GBK acquisition.

“We would like to resume paying dividends in the 2018 financial year as soon as we get this GBK acquisition bedded down,” he told Moneyweb when the company released its results for the six months to August.

GBK, which was announced post the reporting period, is the sixth acquisition concluded by Famous Brands this year. Read more here.

For senior portfolio manager at Ashburton Investments Wayne McCurrie suspending the dividend is not a big deal. “It’s better for Famous Brands to conserve cash. Investors aren’t buying the share for the dividend but for future growth. Conserving cash also prepares it for future acquisitions,” said McCurrie.

Famous Brands is not ruling out further acquisitions. “The fact that we have a leveraged balance sheet [bank overdrafts grew to R537 million during the period from last year’s R44.7 million], we now have to look at opportunities in a different light in line with our current constraints which will make it easier by holding back dividends,” said Hele.

Hele hinted that more deal-making might come from the UK.

The GBK deal is expected to weigh on its operating margin, which is already under pressure, as it declined to 16.5% from 17.4%.  “Our operating margin is a bit difficult to handle but we got control of it as the mix of our business is changing quite a lot,” said Hele.

Although concerns have mounted in the market about whether Famous Brands is over-investing and expanding at a too rapid rate, the company continues to pump cash. It rewarded shareholders with a 71% rise in headline earnings per share to 411 cents compared with 241 cents last year.

Group revenue increased 23% to R2.4 billion; operating profit (including exceptional items) rose 51% to R525 million and cash generated from operations before changes in working capital increased by 19% to R457 million.

The portfolio manager at Rexsolom Invest Anthony Rocchi says Famous Brands’ free cash flow remains strong despite its investment in GBK (See graph below).


Source: Rexsolom Invest.

“The transaction will be included in the final numbers that will push free cash flow to into the red for the first time since 2009.

“I think management is choosing to err on the side of caution rather than placing the balance sheet under inappropriate pressure. Whether or not GBK is a wise investment is yet to be seen until we see more information,” says Rocchi.

At a time when consumers remain increasingly hard-pressed due to sustained rising costs and interest rates, companies heavily reliant on their disposable income should, in theory, see more pain.

Not in the case of Famous Brands. System-wide sales across its restaurant business grew by 14.2% while like-on-like sales improved by 9.6%. Most of the growth came from its mainstream brands Steers, Wimpy and Debonairs Pizza.

It opened 75 new restaurants during the period. “Over the next six months, we could have easily opened another 100 restaurants,” says Hele.

Its logistics and manufacturing divisions, which supply its franchise network of 2 626 restaurants, reported revenue growth of 24% to R1.6 billion and 53% to R1.3 billion respectively.

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