How the very best companies survive the toughest economic times

Telegraph

a day ago

Questor is The Telegraph's stock-picking column, helping you decode the markets and offering insights on where to invest.
Even the very best companies experience highly challenging periods.
A solid balance sheet, a clear competitive advantage and a sound long-term growth strategy may define a high quality firm, but this does not shield a company from difficulties – such as a tough industry outlook or deteriorating economic conditions.
However, in Questor's view, such companies are likely to come good in the long run. Ultimately, their sound finances mean they are well placed to overcome a temporarily weak operating environment, while their strong competitive position typically results in a growing bottom line.
This standpoint is a key reason we have stuck with beverages company Fever-Tree, despite its hugely disappointing share price performance since being added to our Aim portfolio in October 2023.
At their lowest ebb, the firm's shares traded 37pc down on our notional purchase price. Although they have subsequently risen, a paper loss of 3pc still represents a highly inadequate return – especially when the FTSE Aim All-Share index has risen by 15pc over the same period.
Of course, Fever-Tree has had to contend with extremely difficult trading conditions in recent years. Elevated inflation meant that its costs surged higher, thereby squeezing profit margins. A rapid rate of price rises also put pressure on disposable incomes, which weighed on demand for discretionary products and prompted some consumers to switch to cheaper alternatives or reduce consumption.
Now, though, sticky inflation is widely expected to give way to a sustained period of modest price rises over the medium term. Not only could this put less pressure on disposable incomes, it may encourage further monetary policy easing that boosts wage growth. The end result could be greater spending power among consumers that prompts higher demand for the firm's products.
Fever-Tree is well placed to take advantage of improved operating conditions. Its recently released trading update confirmed it retained its dominant market position in both on-trade and off-trade in the UK. It also made market share gains across all of its key regions in the latest financial year. Alongside strong brand loyalty, this suggests it has an excellent competitive position that could provide scope for margin growth over the coming years.
For the current year, the firm's trading update stated that it remains on track to post a low single digit rise in revenue and a 12pc earnings before interest, tax, depreciation and amortisation (Ebitda) profit margin. This latter figure represents a 170 basis point decline versus the prior year, which means the company's bottom line is due to fall by around 18pc this year. However, it is then forecast to post a 19pc surge in earnings per share next year, as well offering scope for further profit growth over the coming years, amid an improving operating environment.
Clearly, risks such as an ongoing global trade war could weigh on the company's financial performance. Although the firm's trading update suggested the impact of US tariffs is set to be largely mitigated over the long run – for example, by production being relocated to the US – increasingly protectionist policies may still dampen the wider consumer outlook and lead to deteriorating investor sentiment towards cyclical stocks in particular.
Given the firm has a net cash position of around £84m, it appears to be in a strong position to overcome inherent volatility in the global economy – and with the company's strategic partnership with Molson Coors still in its relative infancy, the stock's risk/reward opportunity appears to be favourable on a long-term view.
Fever-Tree's market valuation is likely to be considered a red flag by some investors. It currently trades on a forward price-to-earnings ratio, using the current year's prospective decline in earnings, of 40.8. This is significantly higher than the ratings currently applied to other global consumer goods companies that offer lower levels of risk as a result of their greater diversification, size and scale.
However, in Questor's view, Fever-Tree still offers investment appeal. The company has an excellent competitive position that is likely to prove highly beneficial during an upcoming period of modest inflation and interest rate cuts.
Its expansion into new geographies and product segments also means it is gradually becoming a more diverse business. With a net cash position, a sound strategy and upbeat growth prospects, it remains a high-quality company that is worth sticking with for the long term.
Questor says: buy
Ticker: FEVR
Share price at close: £9.38