Bass feels a bitter draught

The finance director of Britain's number two brewer reflects on the City reaction to a profits warning that cut the company's value by pounds 770m

ARRIVING at the Bass headquarters near London's Marble Arch on Wednesday, 16 September, Richard North was braced. The famous old brewer's annual September trading update was due for release later in the morning. It contained bad news. North could hear the screeching noise emanating from the City as the bull market ground to a halt, and he knew fund managers were poised to sell on the least whiff of corporate weakness. "I myself had thought for some time the stock market was over-valued," he said.

But the reaction to the Bass update - instantaneously characterised as a profits warning - still caught the finance director by surprise. More than pounds 770m was knocked off the company's stock market value in a matter of hours. By the end of the week, the company's shares had plunged 18 per cent, even though City analysts cut their forecasts for the company's 1998 financial year earnings by only 6 per cent.

"The selling was widespread," recalled Ben Maitland, an analyst at Sutherlands. A second City source noted: "City firms sold Bass shares short on the news."

Bass has yet to regain its equilibrium. On Thursday, its shares fell 42p to close at 636p - not much more than half their value at last spring's peak. The trigger was more bad news: the company was expelled from the Goldman Sachs European Portfolio, one of the merchant bank's investment yardsticks.

Assessing where the company stands on Thursday evening, North was philosophical. "The company's all right," he said. "But a lot of little people are being hurt: employees who get shares as part of their incentive schemes; private investors selling knocked-down shares for some personal reason."

Bass is hardly alone in feeling the City's boot. The widening realisation that the great bull market of the 1990s is emphatically over has led to a polar change in investor attitudes. "No news is bad news now," North said. "Bad news is terrible news."

Since July, some 50 UK companies have issued some form of profit alerts. These have come along with news of job cuts, production cutbacks, and a scaling-down of macro-economic growth forecasts globally. Still, North believes the City is over-reacting. "We don't know what's happening in the economy yet," he said. "We are in danger of talking ourselves into recession."

Fraser Ramzan, brewing analyst at Lehman Brothers, partly agreed last week. On Wednesday morning, he explained that Bass shares were being dumped because the City had concluded the problems in the company's drinks and pub divisions were long-term.

After paying a call on North on Wednesday afternoon, however, Ramzan modified his position. "The company experienced a big drop in beer sales in July and August," he said. "But it made this up in September. It's too early to know which months are the trends and which are the aberration."

Since lightning struck the company's share price on 16 September, North has spoken to 12 City analysts. He remains quizzically good-natured about the City's capacity for instantly identifying trends.

Last spring, when Bass's shares peaked above pounds 11, the City saw the company as a winner in the consolidating brewing business and in its expanding restaurant and hotels businesses. By 16 September, the City's description of the same company following the same corporate strategy was 180 degrees different.

Brewing was a low-margin business with little future, according to the new view. Bass's trendy restaurant chains like All Bar One and It's A Scream were vulnerable to too much competition. The downturn meant fewer people were going to eat out, anyway. Bass's Holiday Inn, Crowne Plaza, and Inter-Continental Hotels & Resorts hotel chains were exposed to reduced occupancy rates in Asia and other stricken regions.

Part of this night-to-day shift, North acknowledges, is the result of the radical change in the way the world looks now compared with last spring. But another part, he suggests, comes from the need for City brokers to change the stories they tell investors to generate share buying and selling.

The City's research analysts are the ones to distinguish between what is real about Bass and what is sentiment. Or so the theory goes. But the analysts argue that only Bass knows the numbers well enough to make a definitive judgment possible - and that, if the numbers are gory, they will be massaged. Bass notes that, however objective an analyst might be, his firm's profits correlate to the volume of shares changing hands.

A little history sheds some light. Bass traces its origins back to 1777, when William Bass switched from transporting beer to brewing in Burton- on-Trent. In 1876, Bass became the first company to gain trademark protection (for its red triangle) under the Trademark Registration Act of 1875. To build a nationwide network of breweries and pubs, it joined forces with Charrington United (Carling) in 1967. By 1970, Bass had about a quarter of the British beer market.

In the late 1980s, the company began to diversify. It bought the Holiday Inn chain. Later, in its thrust up market, it divested itself of Coral betting shops, Gala bingo, and pubs in the poorer regions of the country. In March, it paid Japan's Saison Group $3bn (pounds 1.8bn) for the Inter-Continental Hotels chain, with 120 outlets.

All this was part of the company's effort to reposition itself as a diversified leisure operation. When North joined Bass in 1994 - from high-street retailer Burton Group, which he helped nurse through the 1990-92 recession - the strategy was paying off. Leisure was a magic word in the City. The sector was the fastest growing in the UK, employing 10 per cent of the workforce and generating 10 per cent of national output.

By mid-1996, however, leis-ure peaked as an investment sector relative to the overall stock market, according to Philip Wolstencroft, Merrill Lynch UK equity strategist. By then, there was a stampede of companies into the leisure sector - not just breweries modernising themselves, but betting companies like Ladbroke's doing the same, niche pub chains like JD Wetherspoon, and new entrepreneurial ventures.

"The City became worried the leisure industry was oversupplied," said Wolstenscroft.

Bass's trading update precipitated the last leg down in the City's revaluation of the company. Bass admits that beer sales by volume were down 10 per cent in July and August. It has disclosed that a leaking valve at a canning plant in July caused problems for its Carling, Caffrey's and Worthington draught bitter brands. The strong pound cut pounds 11m from profits. Britvic, the soft drink maker jointly owned by Bass, Whitbread, and Allied Dom- ecq, also lost pounds 9m on a product recall.

Three days before publishing its trading update disclosing this bad news, Bass suffered another kind of blow. The Sunday Times ran a business story reporting that Whitbread was cancelling plans to expand its pubs and restaurants. As a result, the company's bad news was set in sharp relief. In contrast, Whitbread was seen to be acting decisively in the face of the economic downturn.

The City quickly downgraded its forecast of what Bass will earn in the financial year ending 30 September. The average is now 57.3p per share, down from above 60p before the trading update. More alarmingly, three City firms predict that Bass will grow long-term at the lacklustre rate of 8 per cent, 3 per cent below the overall industry average. All this means that Bass, the nation's number two brewer, is valued more lowly than Scottish & Newcastle, the number one, and Whitbread, the number three.

North attributes some of these problems to simple bad luck. The company's poor performance in July and August came just before its financial year end, he points out, which gave it little time to recoup lost ground and avoid the pain of downwardly revised profit forecasts.

North hopes the City will re-rate Bass shares upward when the company reports its actual 1998 results in December. But this may be optimistic. "The City is unlikely to re-rate the shares upward unless Bass's earnings are higher than the consensus forecast," said Lehman's Ramzan.

Whatever happens to the company's share price over the next few months, however, North remains confident about its strategy. If there is a recession ahead, he says Bass's core brewing and pub business will see it through. If the current pessimism turns out to be overdone, then the company's push up market into restaurants and hotels will become the profit engine.

North is, of course, presenting the facts in their best light. That is his job. In comparison to the jobs of City analysts, however, his looks secure. Bass and big companies like it are increasingly dealing with pension funds, insurance companies, and other big pools of capital direct - cutting out the middleman.