Clear winners
The drive for greater transparency will make it very clear how well run pub companies really are - or not, writes John Rathbone.
The debt funding of pub companies in the UK covers a wide span from the extremely innovative to the potentially crippling. Recently Paul Inglett, finance director at Wolverhampton & Dudley Breweries (W&DB), was ranked as one of the top five finance managers in the country in a poll conducted by Finance Week - reward, no doubt, for the highly successful £1.08bn refinancing undertaken last year.
Refinancing
It is good to see the industry recognised for finance initiatives. We should see more. The major hyperactive pubcos like Enterprise Inns, Punch Taverns and the 'super regionals' - notably W&DB and Greene King - have been in a position where their acquisitions have forced them into regular refinancings over the course of the past few years.
In order to maximise their borrowing ability, their funding has concentrated on tapping the capital markets through bond issues that produce stability in longer term debt costs.
This regular restructuring has brought down the average cost of their debt, but bond issues have their disadvantages in terms of flexibility. If the major pubcos run out of acquisition targets, or if Robert Tchenguiz gets to them first, one wonders how effectively they will be able to offset their large income streams against their longer term fixed rate cost of finance.
Private equity
At the other extreme are the private equity-funded pubcos; groups that rely almost exclusively on bank debt finance.
While this may be in the form of medium term loans, interest rate protection normally only covers a relatively short period as the bank providers make hedging for a minimum period of only three years from drawdown a key condition.
As most private equity houses will only expect their investment to have a life of about three years, there is no incentive to protect their funding costs for a longer period as that might impair the sale value of the pubco.
This has resulted in many of the pubcos in this category having funding cost certainty for a period of not much more than a year, thus leaving them open to an unpleasant shock in the (albeit unlikely) occurrence of a major increase in interest rates over the course of the next year.
Bank debt
Outside these two categories are the many pubcos supported mainly by bank debt and sometimes, in the case of brewery-owned pubcos, longer term fixed rate debt.
The financial strategy of these companies varies greatly ranging from being actively managed, through their banks' requirement for interest rate hedging, to benign neglect.
Opportunities for refinancing longer term fixed rate debt seems to be regularly overlooked while the potential to use alternative funding structures, such as conduits, that have been developed in other asset-backed sectors like student accommodation and healthcare, seem to have been overlooked in the pub industry.
The relentless pursuit by the accountants for disclosure through FRS 26, will, probably by 2008, ensure that all companies will have to disclose their financial management strategy in much greater detail than the odd note tucked away at the back of the report and accounts.
Crucially, the difference between the well and poorly financially-managed pubcos will become much more transparent.
John Rathbone is founder and chairman of JC Rathbone Associates Ltd, financial advisers to major pub companies.
