Whitbread CEO May Regret Ruling Out a Break-Up so Soon: Gadfly

By Publications Checkout
Whitbread CEO May Regret Ruling Out a Break-Up so Soon: Gadfly

Good Together is the name Whitbread gives its corporate social responsibility program - but it also applies to CEO Alison Brittain's strategy for the sprawling chain of hotels, restaurants and coffee shops.

In her first set of earnings as CEO, Brittain resisted calls (not least from Gadfly) to separate Costa Coffee, the biggest chain of coffee shops in the UK, from the Premier Inn hotels and restaurants business. Instead, she focused on the growth potential of the two divisions together.

She reiterated the company's plans to reach 85,000 UK hotel rooms by 2020 and boost revenue from Costa cafes, coffee machines and franchise royalties to £2.5 billion, an increase of almost £1 billion from today.

Costa's growth will come from expanding overseas, adding new shops on leisure parks, drive-throughs and Costa coffee machines - all businesses that have little overlap with its traditional high street coffee shops.

None of these plans are new, nor will any of this growth will be cheap: capital expenditure rose to 725 million pounds in the year through March 3, a 28 per cent increase on the previous 12 months.

While the shares rose as much as  2 per cent on Tuesday, they are still down 15 per cent since Brittain became CEO in December. That's a steeper fall than the FTSE All Share Index's 3.4 per cent drop. The stock trades at about 15.3 times estimated earnings, slightly below its average multiple of 16.6 times for the past five years, according to Bloomberg data.

Brittain can't be blamed for the stock's decline. But she can, and should be, making the right decisions about strategy.

Demand for coffee shops in Britain is peaking, and sales are expected to slow in coming years. At the same time, more competitors are entering an already crowded market. An exit at this point would allow Whitbread to extract maximum value from the business. Alternatively, the hotels business could be attractive to an international buyer seeking to add budget rooms to their more upmarket brands - but M&A activity in the sector may not continue indefinitely.

Analysts at JPMorgan have put a break-up value of £44 per share on Whitbread, 7 per cent more than the stock's current price. M&A activity in both the catering and hotels industries could push that higher.

Brittain has missed a golden opportunity to at least review Whitbread's structure - even if she later decided against an overhaul. A new CEO has much more license to make change.

Her room for manoeuvre will only shrink from here. Sales at Costa outlets open more than 12 months slowed to 0.5 percent in the fiscal fourth quarter. (Whitbread said on Tuesday, though, that the chain had had a "good start" to the new financial year.)

Same store coffee sales are stalling across the UK market, according to estimates from research firm Allegra. Whitbread reckons Costa is continuing to take share in a flat market. But competitors, such as Greggs and Wetherspoon are all chasing a slice of its latte and skinny muffin sales. Analysts at JPMorgan estimate that Costa could have an enterprise value of £4 billion.

Whitbread's stellar revenue growth is forecast to slow in coming years. That will be put pressure on Brittain to deliver her promised goals. The longer, though, she spends in the job, the more the share price performance becomes her problem, and the opportunities to solve that fewer.

She may regret deciding against a formal strategic review at this early stage.

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