Investment: So should you invest in... food producers?

DESPITE ITS undoubted defensive qualities, the food producers sector is another one of the well-established groups of companies that have ceased to excite investors. It is also an arena beset by specific, and highly publicised, problems.

First, there are the health scares that have affected meat producers in particular. Then there is dominance of the big supermarkets as the retail outlet for their wares. "The power is with the multiple retail chains and not the stodgy old food producers," said Damian Larkin of retail stockbrokers The Share Centre. "We have seen no great demand for analysis of the sector by our investors and it is a difficult business these days for investors to judge, as there is not much potential for incremental growth."

David Harbige at Barclays Stockbrokers said: "The market isn't particularly excited about food producers as there are better growth opportunities elsewhere. We are dealing with relatively mature companies which also have to cope with increasingly demanding standards from the retailers."

Lesley Lyndhurst, an analyst at NatWest Stockbrokers, said: "The supermarkets have the buying power to really screw them down on price There is a lot of overcapacity amongst food producers. What growth there is will come from squeezing margins and increasing market share.

"They have attempted to do this through occupying prominent positions on the supermarket shelves and special offers and promotions. The major theme of the sector over the past year has been `BOGOF' - But one Get One Free. But the companies have found that the wise shopper is simply taking advantage of these offers and not buying anything else so that the whole process was working against them."

Mr Harbige said that it is the bigger stocks in the sector that look the most attractive. "You have to be very large to get noticed by global fund managers. Unilever meets that profile in the UK, as, to a certain extent, does Cadburys.

Not everyone agrees that a UK focus is necessarily a bad thing. Mr Larkin said: "It is still a very defensive sector since the food-producing companies have primarily UK exposure and there is always a demand for food." As an example, he cites the recent interest in Associated British Foods. "The stock was given a push when a stockbroker gave it an `add' (as in `add to holding') recommendation and, having been depressed for a long time, it bounced up 4 per cent immediately. This rating was largely because it is seen as a defensive holding whose business will benefit if the UK joins the euro."

There have been some spectacular falls from grace in the sector, and many companies have been trying to slim down.

"There are various niches," said Mr Larkin. "If you look down the sector, you will see that Cadbury's chocolate business is materially different from Booker, which is frozen foods and cash and carry. One quite interesting company is Devro International, which actually makes packaging for food, especially sausages. It wasn't doing to well, but went up on the back of speculation that it would be bid for. The management came out and said that this was not the case, but it has stayed up, possibly because it doesn't make any food at all but is in the food sector."

"It is very difficult to see the light at the end of the tunnel for food producers," Ms Lyndhurst said. "We have been advising investors to stick to the quality companies, such as Unilever and Cadbury's, where growth will be supported by innovations. There are also low cost producers that seem to have got their act together, such as Unigate, which has speciality businesses in dairy products and cold meats."

"If there is one to hold it would be Unilever," agreed Mr Larkin, drawing attention to its spread of businesses. "Robert Wiseman also has reasonable earnings growth and only a forward p/e of about 12. Brake Brothers, which supplies chilled foods to the catering industry, has quite a good track record and was on our buy list, although its share price hasn't done too well as its business suffered during the World Cup from people staying at home."

Indeed, the chilled food sector is one where there appears to be genuine growth prospects. "We hold Hazlewood Foods and Geest," says Nigel Thomas, manager of ABN Amro's UK Growth Fund. "Another good looking stock is WT Foods, which recently bought Noon Foods, a speciality maker of Asian and Indian meals. The chilled food sector is a genuine growth industry, with a lot of potential from the growth of ethnic food sales, increasing use of microwaves, blast chilling and so on."

BUY

Alexon, says BT Alex.Brown, which notes the retailer coped well with last autumn's collapse of consumer confidence on the high street. Alexon cleared seasonal stock quickly and the analyst predicts it should report an underlying 6.5 per cent rise in 1998 profits on Monday. With 60 per cent of its fine chemicals business in high-growth pharmaceuticals and signs of recovery in Asia set to help its leather chemicals business, BTP is a firm buy (312.5p), says Sutherlands. Henry Cooke also rates the shares a buy, setting a short-term target of 384p a share. It says BTP has exciting medium to long-term prospects as more pharmaceuticals and agrochemical companies outsource fine chemicals production.

SELL

Graham Group (131.5p), says Albert E Sharp, which predicts the benefits of its shift from the plumbing and heating market towards building materials will not be as evident in 1999's figures as they were last year. It adds that although a trade buyer could value Graham well in excess of its current market capitalisation, likely partners are occupied elsewhere and the group is unlikely to feature in the sector's consolidation in the near future.