Punch - Which Call? - Model Update
All,
Please find our updated analysis of Punch here.
Forever the ugly duckling among behind Stonegate, Punch is doing well and turning acquisitive. The bonds are trading rightfully tight now, but depending on the nature of any acquisition - and the Stonegate Platinum question is hanging in the air - we could be interested in these bonds (or the next) soon enough. Anyhow, for anyone content with 7.3% YTC (2029) and with a chance to be called next summer for a YTC of 9.6%, these are as safe as pubs can get.
Investment Considerations:
- Punch bonds are trading at 7.3% YTW ('29 call at par). We are not buyers at this level as the credit is too solid to offer the returns we target. Asset coverage of the bonds is strong, making Punch a fair investment for yield-focused buyers, but not sufficiently attractive for our mandate. Furthermore, we see any upside restricted, not only by the call structure to some 9.6% (first call), but also by M&A, which may look dilutive - at least in the short term.
- On the upside, we could see the name slowly creep up to 104p/£, slightly above call even, to yield a YTC with a high 6-handle, but as usual, the downside tends to be greater if the consumer suffers another shock.
- Among the two HY-issuing pub companies in the UK, Punch are clearly in the stronger position - potentially so much so that we may see an acquisition of Stonegate's Platinum estate. If so, and even though that seems to be the most stable estate at Stonegate, we would expect Punch to slightly overpay and the bonds to drop off somewhat.
- Fortress’s strategy of converting L&T pubs into managed partnerships is delivering improved IRRs. We therefore expect the group to develop very strongly in the next year and all else being equal, could imagine Punch calling these bonds at the first convenience in Summer 2027.
- Long Term: Relative to Stonegate, Punch has less exposure to discretionary, late-night city-centre spending, which could ultimately limit upside when the consumer does eventually rebound. However, for now this scenario remains far off.
Key Conclusions:
- Punch is transitioning from defensive player to potential acquirer. Performance is strong, and EBITDA is expanding in the high single digit range, trending towards double digits, supported by price pass-through, estate conversions, and cost management. Management have openly signalled raising new debt — most likely pari passu to the SSNs — to fund acquisitions, with Stonegate’s Platinum estate a plausible target. Q4 is guided to be another strong quarter, and we have significantly raised our EBITDA expectations for 2026. (Current Trading)
- Cash flow coverage is strengthening materially. FCCR is trending towards 3x by H226, driven by the combination of rural and small-town demand inelasticity, inflation-led pricing power, and the ongoing pub conversion programme, which is delivering improving returns. Management intend to deploy this headroom towards acquisitions rather than deleveraging. (Current Trading, Company)
- Structural headwinds persist at the sector level through long-term pub closures, reduced discretionary spending, and declining alcohol consumption, though Punch’s rural and suburban concentration continues to insulate it from the sharper downturn facing city-centre operators. (Industry)
- Loose documents, strong collateral: Sponsor flexibility is high given weak covenants, but extensive security means value should break in the Notes. Credit strength lies in collateral recovery, not covenant protection. (Legal)
Q126:
- First full quarter under the new capital structure, and the numbers continue to slightly beat our model, both at revenue and at EBITDA levels. The quarter was already flagged as strong on the Q4 call. We have raised our projections as a result.
- As is typical after a large refinancing, we did see some WC outflow, as well as somewhat elevated CapEx, and the latter should remain a little bit elevated as the company continues to invest in its growth, benefitting from weaker players offloading assets for liquidity (McMullen and Stonegate). Management, however, attributed this particular spike to the increased rate of transfers to Pub Partnerships, with 16 transfers in the period versus 2 transfers in the prior year period.
- Answering our musings below about why management was suddenly chest banging so much even though the refinancing had already happened, the presentation included the following comment: "Punch is actively monitoring market conditions and reviewing options to fund inorganic growth (including, in particular, options to refinance or finance amounts that have been, or will be, used to acquire the 49 [...which it bought post quarter end...]). This may involve the borrowing or issuance of new senior secured debt in the near term, including by opportunistically accessing the debt capital markets, subject to market conditions. Potential incremental debt raised and potential acquisitions pursued will remain consistent with Punch's conservative financial policy and will be net leverage neutral." Again, Stonegate will be looking for a solution in the Platinum division.
- Q226, which includes Christmas and New Year's has been flagged as particularly strong, with underlying EBITDA 10% ahead YoY through both dates already.
Looking forward to discussing this name with you,
Wolfgang
T: +44 203 744 7003
www.sarria.co.uk