Should I Buy Associated British Foods?

Published in Company Comment on 26 September 2012

Harvey Jones sinks his teeth into Associated British Foods (LSE: ABF).

It's time to go shopping for shares again, but where to start? Recovering bank RBS (LSE: RBS)? Smoker's friend British American Tobacco (LSE: BATS)? Or maybe a slurp of Diageo (LSE: DGE)?

There are plenty of great stocks to choose from, and I'm enjoying doing some window shopping. So here's the question I'm asking right now. Should I buy Associated British Foods (LSE: ABF)?

Food and fashion

Associated British Foods is a multinational food processing giant that boast brands such as Ovaltine, Ryvita, Silver Spoon, Patak's, Jordans and Twinings. It is also the world's second-largest producer of sugar and baker's yeast, and those mysterious ingredients you see listed on food packaging, enzymes, emulsifiers and lactose.

But that isn't what's getting investors' gastric juices flowing right now. It's not the food, it's the fashion investors are hungering for, in the shape of its division, low-cost fashion monster Primark.

Chic and cheerful

If you believe in investing in what you know, I should already own ABF, aka Primark. Every time I meet my teenage nieces, another wedge of their pocket money has been invested in the store's skinny jeans, printed blouses, earrings, shoes, boots, trousers and accessories, at prices you won't believe.

But Primark isn't just for the kids. In these troubled times, its budget fashion is helping grown-ups stay cool for less cash. It's a glitzy combo, helping Primark beat the recession and youth unemployment, to post a 3% rise in like-for-like sales in the 12 months to mid-September. Even the Olympics couldn't compete, with summer trading in the UK particularly strong.

You would think a company whose key markets are Britain, Ireland and Spain would be struggling right now, but quite the reverse. With pricey brands such as Burberry (LSE: BRBY) losing their cool, cheap chic is where it's at. As Primark expands across Europe, opening 19 stores this year (making it 242 in total), it expects total sales to rise 15% this year.

A good Weston

ABF, which is 55% owned by chief executive George Weston and his family, is also expecting sweet returns from its sugar business, thanks to strong European and African revenues, which should offset slowing sales in China.

The rising cost of raw materials is threatening margins, especially after ABF decided against passing on the rising cost of cotton to its customers. More expensive wheat could up the pressure.

Yet the outlook for the group remains promising. It publishes its full year results on 6 November, when analysts expect its pre-tax profits to rise 25% to £952 million.

Safe style

ABF's share price has risen strongly in recent months, up 12% since the beginning of June. If Primark can turn on the style, whatever the economic climate, ABF could prove a good defensive buy.

But investors won't bag a bargain here. The stock looks fairly priced at 15.1 times earnings, and the yield is modest at 1.9%, covered three times. If you want to buy fashion on the cheap, you will have to head to one of its stores.

A perfect fit

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> Harvey holds Diageo and RBS. He doesn't own any other shares mentioned in this article.

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