Industry meltdown?

Lemmings. That's how one City analyst described the investment community last week as shares in pubcos - and most other listed companies - dived dramatically, then briefly recovered on some snippet of good news. Then dived again.

While the UK economy and the stock market are being hammered, all eyes are on events thousands of miles away. Investors are banking, if you'll pardon the pun, on the revised version of the $700bn (£370bn) bail-out proposed by President Bush being the key to restoring confidence to a battered Wall Street and, it is hoped, the rest of the world's financial systems.

Although eceonomic problems will not disappear all of a sudden the US move is deemed to be good news, but what has a US government rescue package to do with the performance of pubs in the UK?

It depends how you look at it. Sentiment is everything, never more so than at the moment. We have long passed the point at which people simply spoke of difficult economic times. We are in the midst of them. As the consumer feels the pinch there is a growing sense that sections of the pub industry - namely the tenanted and leased model - have a limited future. Falling sales mean less chance of repaying debt or keeping up securitisation commitments. This appeals greatly to the model's critics, but is such 'optimism' misplaced?

Short-selling the pub trade

Currently, as Deutsche Bank analyst Geof Collyer wrote in a piece of investment research recently, pub stocks are the new banks, with short-selling - where investors borrow stock for a fee, sell it immediately and then buy it back after the price has fallen - now a regular feature of the market.

The activity, recently outlawed for financial stocks to try to stop the rot in the bank sector, has hit pub shares dramatically. Fears about Punch Taverns' debt situation, for example, have pummelled its stock, although its recent bond repayment announcement buoyed the shares somewhat.

But Punch's share price still more than halved to 135p in September after it released a trading update earlier in the month. Enterprise Inns' shares have slumped 63 per cent since the beginning of the year. Others have seen similarly sharp falls, but as everyone is being sucked into a vortex of consumer-related gloom, this is not surprising.

That said, Punch's stock performance - up or down- is the one attracting all the attention right now.

"There is a lot of scepticism around regarding Punch's financial health," says one analyst. "But the bad news has been affecting companies that have actually put in a reasonably good performance. There appears to be little distinction between a decent operator and a poor one. But in this market getting anyone to care about the distinction is next to impossible."

Finances are tight, certainly, but are things that bad? Not everyone thinks so. In his research piece entitled UK Pubs - A Winter of Discontent?, Collyer wrote: "It is worth remembering that the pub sector has still been able to raise fresh replacement finance - around £2bn of it - over the past 10 months, and most of that has been since the end of June. Do they have re-capitalisation issues? We don't think so, although others in the market would beg to differ."

There are definitely those with opposing views. Aided by some visceral research, sentiment has turned against certain companies; Punch in particular, because of what some see as its uncomfortable debt position and, to an extent, Enterprise Inns.

But the general consensus has it that the former will at least be able to cough up the near-£300m needed to redeem a convertible bond in two years' time.

Overly nervous?

"The market is very nervous about anything highly leveraged," says one analyst.

"It's been implying that Punch is going bust, which feels to me at least an incorrect take on things. It can cover its interest payments nearly two times and while it might breach its cash traps [where not enough profit is generated to take cash out of a securitisation vehicle] it will need to see EBITDA fall by at least 15 per cent to be in real trouble."

Could this happen? It's anyone's guess. Despite relatively reassuring noises from a few pubcos, some in the City fear they are not getting a full picture vis-à-vis the state of trading on the ground. "Shares are being driven by fear, rather than any new information on trading," the analyst added.

Matters are certainly complex. As one finance expert said last week: "Equity investors don't understand securitisation and have taken fright. Punch has to come up with a solution, and it will."

Some hold the view that in time the likes of Punch and Enterprise will simply let their estates' less robust pubs go to the wall. Pubco critics hope certain companies meet a similar fate well before then.

Those with a more positive outlook believe the industry will recover, but only after what one described as a "long, slow work-out".