Having analysed Microsoft (MSFT:NASDAQ) and Unilever (ULVR) in parts one and two, part three of Shares new mini-series is an examination of the key metrics and investment merits of Greggs (GRG). A more down-to-earth choice but unquestionably one of the UK’s favourite options for food on the go, now guided by CEO Roisin Currie.

ANALYSING GREGGS

We will dig into the numbers at the value-for-money sausage rolls, coffees and sweet treats seller with Tyneside origins. This is a stock that has served up a tasty total return (capital growth plus dividends) since joining the stock market as a humble bakery retailer back in 1984. To recap, the aim with this mini-series is to provide you with an easy-to-use five step framework which can be applied to many of the most popular types of company. This feature should give readers a better understanding of the performance drivers at the company behind the iconic vegan sausage roll, and some idea as to whether its stunning success is sustainable into the future.

STEP ONE: ANALYSING SALES GROWTH First up on the analysis menu is Greggs’ impressive history of revenue growth over the past decade. Total sales have doubled from £762.4 million in the year to December 2013 to £1.51 billion in the year to December 2022, a testament to Greggs’ capacity to deliver appetising market share gains. Shore Capital forecasts further rises to £1.75 billion, £1.97 billion and £2.2 billion for 2023, 2024 and 2025 respectively.

Like-for-like sales is a key performance measure for Greggs, since this metric shows underlying estate sales performance excluding the impact of new shop openings and closures. Same-store sales have grown in eight of the past 10 years, save for Covid-impacted 2020 and 2013, when like-for-likes slipped 0.8% due to ‘tough and competitive trading conditions’. 2013 was blighted by two bouts of extreme weather; snow in the first quarter and a heat wave in the third quarter, and the like-for-like anomaly here does demonstrate that Greggs is weather-sensitive. The good news is Greggs has staged an impressive recovery from the coronavirus pandemic and the latest half ended 1 July 2023 confirmed ongoing market share gains. Company-managed shop like-for-likes increased 16%, albeit second quarter growth moderated slightly from a first quarter boosted by weak prior year comparatives due to the Omicron strain. Actions taken to make Greggs’ products available in more channels and at more times of day have continued to grow the frequency of customer visits. At the forefront of the food-on-the-go movement, Greggs has gorged itself on market share by continuing to offer hungry consumers exceptional value food and drink on-the-go and moving beyond its core offering of pasties and sausage rolls. Present-day Greggs sells everything from fresh sandwiches and savouries to affordable coffees, breakfasts and confectionery to pizza slices and chicken goujons and has moved with the times to offer healthier options including gluten-free, vegan-friendly and lower calorie products including the now-iconic vegan sausage roll. The retailer has also expanded its evening trade, successfully developed its digital channels and fostered great customer loyalty with the Greggs App. As of 1 July 2023, Greggs had 2,378 shops trading of which 466 are franchised and has big ambitions to have significantly more than 3,000 shops, which are a key volume growth driver. ‘Our confidence in this opportunity is underpinned by recent success in catchments where Greggs is underrepresented such as retail parks, railway stations, airports, roadsides and supermarkets,’ insists the company. ‘We now have shops trading in Tesco (TSCO), Asda and Sainsbury’s (SBRY) supermarkets, with plans for further development.’

STEP TWO: HOW PROFITABLE ARE SALES?

But the key question is how profitable are Greggs’ growing sales? The next metric to scrutinise is the long-run growth (or not) in pre-tax profit, a measure of the food retailer’s absolute performance. As the table shows, pre-tax profits have surged from around £40 million in 2013 to the best part of £150 million last year, with Greggs’ profitable growth trajectory only interrupted by the unprecedented disruption to trading caused by the pandemic.

Another key metric investors are wise to monitor is operating margin, calculated by dividing operating profit by sales and expressed as a percentage. The operating margin illustrates how much profit a company makes on each pound of sales after an array of distribution and selling costs and admin expenses but before interest and tax. For Greggs, these costs will include everything from manufacturing and logistics costs to its shop leases and the costs of wages, food and packaging commodities. Operating margin has been maintained in high single digits over the past decade at Greggs, well ahead of rival food purveyors such as the supermarkets, in the face of rising wage, energy and ingredient costs. Greggs’ ‘return on sales’ even crept into double digits in 2021 and 2022. The food-to-go group’s vertically integrated business model has helped to support this long-run record of profitable growth. As finance director Richard Hutton informed Shares in an exclusive interview in late 2022: ‘We make the majority of the things that we sell ourselves. We don’t have to negotiate with a supplier for the price of the products and we have the benefit of being a growing business.’ Opening more shops creates even greater demand for the products Greggs makes and enables its bakeries and manufacturing facilities to stay busy. The busier a factory, the more efficient it is and that helps keep prices as low as possible.

STEP THREE: HOW MUCH PROFIT CONVERTS INTO CASH?

Greggs’ cash generative business model and robust balance sheet mean it has been able to fund its expansion and pay progressive and periodic special dividends to shareholders down the years.

As the chart shows, pandemic disruption aside, Greggs has been consistently good at converting its earnings per share into copious amounts of the cash flow that is the lifeblood of any business. This cash supports its progressive dividend policy, which targets a full year ordinary dividend that is around two times covered by underlying earnings. In normal circumstances, Greggs also aims to maintain a year-end net cash position of around £50 million to allow for working capital cycle seasonality and to protect the interests of creditors. The company says its cash position will normalise in future years as it deploys resources to support its ambitious growth plans. At the half year stage, Greggs explained that it continues to carry ‘a higher-than-normal cash position in order to self-fund the multi-year investment in our significant growth programme,’ having closed the period with a cash balance of £138.6 million.

STEP FOUR: ALLOCATION OF CAPITAL

It may seem as though Greggs’ iconic blue and yellow store signs are ubiquitous in the UK, but the food retailer’s share of a fragmented food-on-the-go market remains modest and Greggs remains very much in growth mode. As such, it is allocating capital to new store openings and refurbishments while investing in supply chain capacity to support management’s big growth ambitions.

Greggs has told investors that the level of capital expenditure will increase in coming years. In 2023 it is expected to be roughly £200 million and remain around that annual level through 2024 and 2025 as the retailer invests to increase capacity in its supply chain. A key metric to keep on top of is return on capital employed (ROCE), which is calculated by dividing profit before tax by the average total assets less current liabilities for the year. ROCE is an indicator of efficiency since it measures a company’s profitability after factoring in the capital used to achieve that profitability. Managing return on capital well is an important discipline for long-serving numbers man Hutton, allowing him to measure the return generated on capital invested in factories, new shops and store refurbs. As the table shows, Greggs typically generates a ROCE comfortably north of 20%, edging towards the 30% mark in good years, which is well above that generated by rival food retailers.

STEP FIVE: VALUATION & INVESTMENT CASE

At £25.94, Greggs’ shares aren’t cheap, trading on 21.5 times Shore Capital’s 120.7p earnings per share forecast for 2023 and a PE (price to earnings) ratio of 19.3 times based on the broker’s 134.5p estimate for 2024. This rating is slightly below the 10-year average of 22.2 (a number inflated by a period when earnings were affected by the pandemic and the PE moved out to extreme levels). The progressive dividend payer also offers a 2.3% yield based on Shore Capital’s forecasts for a 60.3p dividend this year rising to 67.3p next. Shares believes this premium rating is more than merited for long-term investors seeking a high-quality compounder and a resilient growth and income stock. Greggs’ reliance on the embattled UK high street has been reduced over the years as it opens shops on roadsides and in retail parks, airports, train stations and within supermarkets, while its unwavering commitment to competitively-priced food and drink, which people always need when they are out of the home, gives the business defensive attributes. Greggs has proven it is well-equipped to cope with inflationary pressures and offers a play on consumer downtrading. Even during the dark days of the global financial crisis of 2007 to 2009, the company’s like-for-like sales remained modestly positive, which was no mean feat.

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