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Whitbread - Costa to be sold to Coca-Cola

Nicholas Hyett | 31 August 2018 | A A A
Whitbread - Costa to be sold to Coca-Cola

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Whitbread plc Ordinary 76 122/153p

Sell: 3,327.00 | Buy: 3,329.00 | Change -7.00 (-0.21%)
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Whitbread has agreed to sell Costa Coffee to The Coca-Cola Company for a total enterprise value of £3.9bn.

The deal values Costa at 16.4 times EBITDA (earnings before interest, tax, depreciation and amortisation), and will leave Whitbread with net cash proceeds of £3.8bn after transaction costs.

The majority of this cash will be returned to shareholders, although Whitbread will also reduce debt and make a contribution to the pension fund. This will support continued expansion of Premier Inn in the UK and Germany.

The shares rose 18% in early trading,

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Our view

This is a bitter sweet moment for Whitbread investors.

On the one hand £3.9 billion is an undeniably rich valuation and likely far better than Costa could achieve as an independently listed company - even Starbucks only trades 14.4 times last year's EBITDA. On the other, Costa has long been the jewel in Whitbread's crown and some will be sad to see it go at any price, especially given the growth potential in China and elsewhere.

It's hard to see how things could have turned out differently given the price on offer though, and Coca-Cola are one of the few companies in the world that could justify the valuation. Its global reach should turbo-charge Costa's growth in the years to come, and hot drinks are one of the few areas of the wider beverages sector where the soft drinks giant doesn't have a killer brand. Costa will get lots of care and attention.

It's worth bearing in mind exactly what Whitbread has achieved with the brand. Having bought Costa's 39 stores for £19m in 1995, the sale price represents a compound annual growth rate of around 25%. Delivering that over a 24 year period is hugely impressive and represents incredible value creation for shareholders.

What remains of Whitbread, essentially just Premier Inn, is a mature business, looking to expand in developed markets and capitalise on the growth of branded, value hotels. It's capital intensive, since hotels are largely owned rather than leased, but a sizeable property portfolio means the company can shoulder significant quantities of debt. Growth is likely to be steady rather than spectacular, with the dividend a major component of overall return.

Performance has been a bit mixed recently, but longer term we believe the product is excellent. Investors also have some large cash returns to look forward to once the deal completes. But the post-Costa Whitbread will be a very different animal, and investors may miss the caffeine highs Costa served up in the past.

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First quarter results (27/07/18)

New openings helped Whitbread deliver 3.2% growth in group sales in the first quarter. However, UK like-for-like (LFL) sales dipped in both Premier Inn and Costa, down 0.9% and 2% respectively.

Whitbread says it has made progress on the demerger of Costa, with a further update expected in October.

The shares rose 1% in early trading.

Total accommodation sales rose 3.7% at Premier Inn, with the UK up 4.3% -ahead of the wider market. Food & beverage sales slid 0.4%, but combined sales across the Premier Inn business still rose 2.2%.

Growth includes the net addition of 413 new UK rooms. On a LFL basis, accommodation revenues fell 0.3%, with food & beverage down 1.9%, as occupancy fell 2 percentage points to 77.2% and revenue per available room dropped 1.9 percentage points to £49.07.

The poor LFL result reflects a weak London tourist market.

The group intends to add 4,000-4,500 new rooms across the UK and Germany this year, with the total German pipeline hitting 6,000 rooms across 31 hotels.

Costa sales grew 5.2% in the UK, with new stores and the roll-out of Costa Express drove the growth in UK sales. Within the UK, Whitbread owned stores saw sales rise 4.3%, with Express machine sales up 9.6% and Franchised stores up 3.8%.

International sales rose 3.3%. The international roll-out of machines continues, with trials underway in Europe, while the group aims to open 100 new stores in China this year.

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The non-executive chair of Hargreaves Lansdown is also a non-executive at Whitbread.

Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.