While the manufacturer had made significant progress in cutting its debt burden from £951M at the end of last year – by generating £90M from disposals, reducing capital expenditure and taking a pension contributions holiday – it now faced a decision.
The firm will not be able to cut its high debt level in 2014, if it made planned annual pension contributions of more than £80M for the next three years, said Panmure Gordon’s equities executive director Graham Jones.
Even if debt was cut to £858M, that still represented a “hefty” 4.8x ratio between net debt/earnings before interest, tax, depreciation and amortisation (EBITDA), said Jones.
While the pensions regulator’s funding statement suggested cash contributions might not need to be raised further, or could even be reduced, a plan to raise more equity was needed to “put the balance sheet on a sustainable footing”, he said.
‘Cash flow impact’
Premier Foods’ triennial review is currently underway, with the results likely to be announced until early next year. “We had previously expected the review to possibly push up the actuarial deficit from just over £500M to about £800M. And while the outcome is still very uncertain, we think it is possible that the cashflow impact could be more benign than previously envisaged,” said Jones.
Nevertheless more equity was still needed, he added. Premier Foods has financing in place until mid-2016 – which means refinancing could be delayed until 2015. But Jones worried banking covenants could tighten faster than debt is paid down.
“We believe refinancing, including a further rights issue, will come in the next 12 months – ideally together with a corporate bond issuance to lengthen the term of its debt financing,” said Jones.
“We think Gavin Darby’s good start has raised confidence in Premier’s business model and the share price rally from July makes the maths of a rights issue much more favourable,” he added.
While the warm summer was unlikely to have helped Premier Foods’ portfolio and trading in its bread business was likely to remain very challenging, the analyst felt more confident about the overall outlook.
Panmure Gordon raised its price target from 65p to 130p. But worries about the firm’s “still exceptionally high gearing” (the proportion of finance provided by debt relative to the finance provided by equity or shareholders), led the analyst to maintain its ‘sell’ recommendation.
Investec was more cautiously optimistic about the manufacturer’s prospects. “We continue to think that things are going well and remain supportive of management,” said analyst Martin Deboo.
“However, at this more exalted level, we think that the likely terms of any refinancing need to be factored in, which isn’t going to come for free. Our price target rises to 160p, but this is now a solid ‘hold’ for us”.
Earlier this month, Shore Capital upgraded its advice from ‘hold’ to ‘buy’.
Premier Foods is due to release its third quarter interim management statement on October 31.