Is This A Warren Buffett Business?

Published in Company Comment on 27 September 2011

A strong brand and a straightforward business, but is it worth buying?

Warren Buffett knows a thing or two about the value of a strong brand. If he'd been born in Glasgow, Scotland, rather than Omaha, Nebraska, he wouldn't have been re-selling Coca-Cola out of his grandfather's grocery store; he'd have been turning a profit on Irn Bru.

And I wouldn't be at all surprised if the imagined Warren McBuffett had later invested in AG Barr (LSE: BAG), the company behind Irn Bru, just as the real Buffett invested in Coca-Cola.

Brand building

Scotland is one of the few places on earth where Coca-Cola has failed to take the top spot in soft drink sales. That's some testament to the brand strength of Irn Bru in its home market, and to the 110 years of brand building of AG Barr.

Any product that can establish a place in the repertoire of its nation's favourite comedian, and have the country's First Minister lobbying the European Commission on its behalf, is surely nothing less than a national institution. What a great position to be in for a brand!

Today, with its long history and established place in Scottish folklore, Barr can consolidate its position by tapping into all sorts of powerful emotions -- such as nostalgia -- that newer brands just can't do. Barr has recently launched a 'bottle archive', for example, to help people who find old bottles identify when and where they were made.

While the company can hark back to the past, it's always been forward-looking and creative in its marketing, which has included famously edgy TV and billboard advertising, sports sponsorship, and more recently the use of social media.

Beyond Scotland; beyond Irn Bru

A taste for Irn Bru isn't confined to Scotland. Sales are growing strongly in the north of England and Barr is planning a new production facility in the south.

Russians have also taken to the bright orange fizz, while an Algeria entrepreneur has recently started importing it, in the belief that it could become as popular as local drink Hamoud -- a cloudy lemonade.

And Irn Bru isn't the only string to Barr's bow. It has a host of other strong brands, including: Orangina (sold in 56 countries and the No. 1 carbonated orange drink in France); Caribbean range KA (with a 50-year heritage); exotic juice brand Rubicon (a canny acquisition of 2008); and Rockstar, in the fast-growing energy drinks segment (under a distribution agreement with US group Rockstar Inc).

Relentless growth

Barr's strong brands and promotional activities have been crucial to its more or less unruffled progress through the recent recession.

The economic climate has been (and still is) challenging, but while Barr's margins have been crimped, by increased raw material costs, among other things, they remain healthy.

Sales, earnings and dividends continue to rise relentlessly -- by 4%, 7% and 8%, respectively, in half-year results, released this morning.

The company also expressed confidence in meeting its full-year expectations, assuming the absence of any significant adverse changes in the marketplace.

Valuation

At the time of writing, Barr's shares are trading at around 1,210p, putting it on a trailing price/earnings (P/E) ratio of over 19.

The P/E has risen from around 10, a decade ago, and even allowing for the fact that Barr is a great business, 19 times earnings seems a hefty price to pay.

Quite why the market is valuing Barr at this level, which is a big premium to other soft drinks groups, such as Britvic (LSE: BVIC) and Nichols (LSE: NICL), is something of a mystery to analysts.

Maybe the market is pricing Barr as a potential bid target, or putting a lot of value on the loyalty of its customer base, but I tend to agree with one analyst, who describes the premium as 'a bit of a strange one.'

Barr has been on our Family Firms Portfolio watchlist for quite a while. We have a share price of below 1,000p penciled in as a level where the company might interest us. Hence, the company's place on the watchlist, rather than in the portfolio!

Only one thing troubles me: everyone said Coca-Cola was expensive when Warren Buffett was buying shares in it in 1988/89.

Am I missing something about AG Barr's valuation? I wonder how the Sage of Omaha would value it.

More from G A Chester:

> G A Chester owns shares in Nicholls.

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Comments

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timeandpatience 27 Sep 2011 , 8:24pm

When Buffett started buying Coca-Cola, analysts were deeming it expensive at 15 times earnings (I think) which is about the same rating that the market is today giving to Diageo.

If it was a toss up between AG Barr and Diageo I would opt for Diageo on the basis that it has a more impressive stable of brands plus a wider geographical spread to its business.

Buffett (Berkshire) is also a shareholder of Diageo and began buying in 2005 when the shares were about 800p and AG Barr was in the region of £10 per share. (Diageo today trades at over £12 representing a c.50% increase in the share price as opposed to AG Barr's 20% share price increase over the same period (ignoring any dividends paid).

Diageo is also a mega-cap (£32M) which puts AG Barr's £450m firmly in the shade - something which those concerned with the downside of an investment may wish to bear in mind in today's volatile market.

timeandpatience 27 Sep 2011 , 8:34pm

Sorry - should've said Diageo's market cap was £32billion (not million) - has been a long day...

M0byDick 27 Sep 2011 , 11:03pm

@timeandpatience
Yep, Coca-Cola at around 15x earnings sounds about right to me, and I agree with the general thrust of what you're saying.
Just one thing I'd point out: AG Barr did a share split in 2009, so the share price was effectively around £5 in 2005 - therefore a c.140% sp increase since, rather than 20%.
Still a puzzle to me, though, why Barr is on such a big premium to other drinks groups.
Foolish best
MobyDick (G A Chester - article author)

M0byDick 27 Sep 2011 , 11:10pm

... and forgot to mention re. the potential downside, I'm pretty sure Barr's share price held up better than Diageo's in both the recent bear market and 2003.

timeandpatience 28 Sep 2011 , 8:01am

Thanks MobyDick - was wondering if there had been any share splits that might have distorted the share prices (which I obtained from Googlefinance).

Regards

T&P

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